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Opportunity Knocking: Banks as Digital Asset Custodians

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Since the emergence of Bitcoin 15 years ago, digital assets have steadily diversified and expanded, earning growing interest from enterprise and institutional investors. As adoption has surged and digital assets have become essential parts of the world’s financial systems, so too has the demand for better ways to safeguard and manage them.

Banks and financial service institutions, long the trusted guardians of traditional financial assets, have an opportunity to capitalize on this growth by diversifying into new crypto custody solutions designed explicitly for the unique needs of digital assets.

Robust Landscape of Digital Assets

The definition of digital assets has widened beyond just cryptocurrencies such as Bitcoin, Ether and XRP, to encompass a broad range of other tokenized assets whose value is represented on a blockchain. These assets include stablecoins, tokenized real-world assets like stocks and bonds, Central Bank Digital Currencies (CBDCs) and more. At their peak in November of 2021, these assets represented a $3 trillion market.

The global digital asset custody market has grown as the need for safekeeping these assets has become paramount. Valued at $447.9 billion in 2022, it’s poised to explode as the world transitions to a tokenized future.

The combination of greater institutional interest in digital assets and increasing regulatory clarity around the world has opened the door for banks to meet this urgent need for trusted crypto custody providers. This is evidenced by the increasing number of banks entering the digital asset custody market to meet accelerating demand.

Strategies for Deploying Custody Solutions

At its most basic, the “custodian” of a digital asset refers to the party that controls a blockchain wallet’s private keys.

These generally fall into three types:

  • Non custodial wallets rely on the digital asset holder to manage their own private keys using digital wallets or hardware wallets.

  • Institutional self-custody means the bank or financial institution protects its own digital assets and those of its customers, including all regulatory needs, disaster recovery and backup services, insurance coverage and more.

  • Institutional sub-custody engages one or more licensed third-party custody provider to assume these responsibilities.

The first and most fundamental question for banks considering offering digital asset custody solutions is whether to build or buy. Building allows for a wide range of customization and puts a bank fully in control, but it requires a large investment, complex technical expertise, ongoing management resources and a high degree of operational risk. Engaging a third-party provider mitigates these downsides while significantly speeding time to market. While this does mean the bank is reliant on an external solution with slightly more standardized offerings, crypto custodians that offer agility and flexibility do exist.

In most cases, banks are seeking solutions that allow them to engage in digital asset trading, custody and staking themselves or on behalf of clients. They need a solution that allows them to go to market quickly and easily (think weeks, not months) without having to make significant investments in infrastructure or expertise.

For many, that means a third-party custody solution. These generally fall into two categories: exchange-hosted wallets or digital asset custodians. The first is a form of institutional self-custody. There is no management fee, but policies are set by crypto exchanges and wallets may be more vulnerable to hackers. The latter is a more secure and fully managed custody solution, but often comes with a higher price tag.

The key for banks, no matter which custody solution they select, is to meet the overriding imperative of their institutional clients: to preserve the advantages of digital assets while ensuring security in an environment where loss is unrecoverable.

Custody as a Competitive Advantage

For banks, an investment in digital asset custody solutions is not a luxury but rather an imperative. Banks have a clear opening to step up as institutional crypto custodians and fulfill the desired combination of functionality, opportunity and peace of mind for their customers.

A successful custody offering will deliver clear competitive advantages and allows banks to remain relevant in a changing financial world. New revenue streams, enhanced liquidity, cost savings and increased transparency can all net new customers and an easier path to retaining current ones.

Done right, it can reduce a bank’s risk profile, ensuring proper security and compliance measures that enable its ability to seamlessly diversify across new regulatory jurisdictions. Custody and orchestration solutions can also accelerate a bank’s technological leadership.

Download the full report 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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