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6 Key Tenets of Institutional Digital Asset Custody

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In part one of this two-part series on the need for institutional digital asset custody solutions, we made the case that banks have an opportunity to enhance their own businesses by expanding their current custody offerings to fill this gap in the market. In this deeper dive, we’ll explore the considerations banks must confront and the six key tenets that will define a successful crypto custody offering.

The Tokenized Future

The tokenization of assets is expected to skyrocket in the coming years, with Boston Consulting Group predicting a $16 trillion business opportunity constituting 10% of global GDP by 2030. As more sophisticated institutional investors engage, they need trusted digital asset custody solutions. Banks are well-positioned to leverage their role as custodians of traditional assets in this tokenized world to become critical parts of the new economic value chain.

Most banks are already in the midst of digital transformation strategies that have included a shift to online and mobile engagement or open banking services. Now, forward-leaning banks must begin including digital asset custody within their definition of digital transformation. Key considerations of that expanded strategy will be the technology, compliance and financial resources required to execute it.

Many banks and financial service institutions will likely opt for third-party custody providers because of their advantages in time-to-market, up-front cost and readily-available regulatory and technology expertise. All of those considerations should be viewed in the context of a long-term strategic investment that will expand a bank’s prospects and opportunities over time.

Whichever path a bank chooses, its most critical obligation is digital asset security, or the secure management and protections of their clients’ digital assets. Adherence to these six core tenets will ensure it positions itself as a trusted custody provider.

1. Security Measures

From the Mt. Gox hack in 2014 to more recent exchange breaches, it’s clear that security is fundamental to any digital asset custody solution. The key is striking a balance between adequately safeguarding assets and maintaining accessibility for customers.

Cold wallets, multi-signature wallets, physical security protocols, continuous monitoring or some combination of these can all be employed as part of a robust security strategy able to detect and respond to potential attacks in real time. Regular security audits provide peace of mind that digital asset custodians are complying with accepted industry standards and staying ahead of evolving risks.

2. Specialized Technology Infrastructure

Advanced technology infrastructure goes hand-in-hand with security, providing superior functionality, scalability and resilience as part of the effective digital asset custody services. From Hardware Security Modules (HSMs) to Multi-Party Computations (MPCs), and blockchain integrations to redundancy and disaster recovery, a technology stack must be able to handle high volumes while remaining flexible enough to surmount constantly-emerging challenges.

3. Regulatory Compliance

Clarity is coming to digital asset custody, with regulatory bodies worldwide working to define frameworks and licensing procedures. Digital asset custodians must not only comply with these standards but also provide mechanisms for adherence to internal policies and management considerations.

These robust regulatory and governance frameworks are essential to reduce vulnerabilities and bolster customer confidence. Ensuring compliance with Anti-Money Laundering (AML) and Know Your Customer (KYC) regulations, proper licensing and registration, detailed reporting and auditing procedures, transaction verification processes and strict access and authorization controls all work to foster an environment of trust.

4. Risk Management

Comprehensive governance and risk management practices are essential to safeguarding digital assets. These include continuous assessment of cybersecurity risks, monitoring regulatory changes, managing market volatility and mitigating operational risks like human error or system failures. Employing routine audits and putting contingency plans in place as backstops will help harden a risk management strategy.

5. Insurance

Insurance coverage is a fundamental offering among reputable custody service solutions, protecting customers from negligence, theft or loss in a world where value cannot be retrieved from a centralized authority. In 2023, for example, the holder of $135,000 CryptoPunk #685 intended to leverage the asset to buy another NFT but instead unintentionally (and permanently) burned it. While the scope of insurance coverage varies among providers, it is an additional layer of security to safeguard crypto assets and provides customers with more peace of mind.

6. Business Model

The ever-evolving nature of the digital asset market demands agility from custodians. Banks aiming to vary their digital asset holdings and appeal to clients with diverse portfolios must design custody solutions that are interoperable across asset types and blockchains. At the same time, custodians must be able to deliver immediate access to liquidity, either through seamless integration with liquidity providers or an in-house trading desk.

Delivering Trustworthy Custody Solutions

Institutional digital asset custody will play a pivotal role in the tokenized economy. Persistent security concerns means institutional and retail investors alike are seeking digital asset custodians they can trust.

For banks and financial providers seeking to capitalize on this growth, adhering to the tenets of security, technology, regulatory compliance, operational excellence and risk management is non-negotiable. Proving a custodian mindset in both reputation and execution will deliver a clear competitive advantage and help support the success of the broader digital asset ecosystem.

Download the full report from Metaco for A Primer on Digital Asset Custody, including a deeper dive on the considerations and core tenets banks must take into account when building a solution or choosing a digital asset custody provider.

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