This article is from Bloomberg, written by Emily Nicolle & Anna Irrera
In the battle to "grab" a piece of the trillion-dollar digital asset market, the competition among Wall Street giants is quietly heating up, turning this often overlooked financial business into one of the most active areas in recent times.
Interestingly, the field of cryptocurrency custody seems to have encountered several obstacles on the surface. For example, Nasdaq Inc. announced last week that it will pause its plans to launch its own cryptocurrency custody service, citing a lack of commercial opportunity and regulatory uncertainty. In addition, Citigroup Inc. is evaluating its relationship with Swiss digital asset custody software provider Metaco Inc., which has been acquired by another cryptocurrency company, and State Street cancelled its deal with London-based Copper Technologies.
However, at the same time, notable progress has been made in this field, including Societe Generale obtaining approval from French market regulators to provide storage and custody services for digital assets, and Schroders, a UK asset management company, looking for cryptocurrency custody solutions.
Last year, FTX and other cryptocurrency platforms collapsed one after another, resulting in heavy losses for traders who stored cryptocurrencies on these platforms. These successive incidents have also led to a surge in the demand for third-party custody by investors, and more and more banks and institutions have seen money-making opportunities in this regard.
Anatoly Crachilov, CEO of Nickel Digital Asset Management, a cryptocurrency fund in London, said, "From day one, gaining custody rights has always been the most important thing for digital asset investors, but after multiple failures last year, investors' risk tolerance has changed."
"Unfortunately, many investors did not realize until the FTX incident occurred that the separation of custody and matching engines and other core functions can provide key protection for investors and contribute to the development of this field." Crachilov said.
Is the Timing Right?
Although this perception provides an opportunity for traditional financial companies to gain a foothold in custodial services, global regulatory differences and different cost dynamics allow some participants to "take the initiative" while causing other participants to reevaluate. In the case of Nasdaq, the uncertainty of US regulation played a role in its decision to exit.
Adena Friedman, Chairman and CEO of Nasdaq, said on Wednesday's earnings conference call, "This prompted us to decide that now is not the right time to get involved in this business." However, Friedman added that the exchange group still believes there are prospects in other areas, such as supporting potential Bitcoin exchange-traded funds (ETFs).
The rules formulated by the US Securities and Exchange Commission (SEC) in March last year and the other rules expected to be introduced by the Basel Committee soon will impose higher capital requirements on regulated institutions that custody cryptocurrencies. Michael Shaulov, CEO of digital asset technology provider Fireblocks Inc., believes that this will increase the cost for some major financial institutions to operate in this field.
Shaulov added that earlier this year, cryptocurrency-friendly banks such as Silicon Valley Bank and Signature Bank collapsed one after another, making the situation worse. US regulators have cracked down on some major cryptocurrency companies, including Binance and Coinbase. In the absence of new rules, the enforcement actions of these regulatory agencies have actually played a guiding role, making many participants cautious about doing business in this field before clearer regulations are introduced.
"The complexity of custodial regulation makes it difficult for new entrants to enter the field, and existing participants also face challenges in expanding their operations," said Clarisse Hagège, the founder and CEO of custodial technology company Dfns. "This does not mean that compliance is impossible," she added, but the confusion surrounding certain rules "creates obstacles for the U.S. market." It is reported that Dfns has received support from the venture capital division of ABN Amro and market maker Susquehanna.
Zhang Liangji and Crossing the Wall
One method banks are using to address regulatory challenges in other jurisdictions is to split off a wholly-owned or majority-owned subsidiary, such as Zodia Custody Ltd. under Standard Chartered. Julian Sawyer, CEO of Zodia Custody, said these subsidiaries are typically not subject to the same capital requirements as their banking owners, making it easier for them to operate in this field.
The Financial Stability Board (FSB) and the International Organization of Securities Commissions (IOSC), among other standard setters, emphasize that companies seeking to engage in crypto asset business should ensure that activities such as trading, custody, and clearing are kept separate to avoid excessive risk.
However, Larry Tabb, market structure research director at Bloomberg Intelligence, said that due to the unclear regulatory environment and lack of high demand from institutions, banks considering developing their own custody institutions may find "better ways to allocate their investment capital."
A spokesperson for Dowbank revealed that the bank is progressing with the development of its own digital asset custody service and is awaiting regulatory approval after concluding the transaction with Copper. Even Nasdaq, which announced a suspension of its foray into custody business, plans to continue developing technology for custody operations.
Standard Custody & Trust Co. board member and managing member of the XYZ Department of Risk Capital Matthew Homer said, "What you see is people quietly continuing to build and participate in research and development activities." Standard Custody & Trust Co. has collaborated with boutique investment bank Cowen Inc.'s cryptocurrency division Cowen Digital. Cowen closed the division in May.
"The challenges these companies face are actually timing - where most participants may believe that cryptocurrencies will continue to exist." Homer further stated, "The demand for digital assets such as Bitcoin will continue to exist. The real question is timing and when the regulatory environment will allow it."
