It seems now, after the latest BCH hard fork, is a good time to discuss the difference between custodial and non-custodial cryptocurrency storage services. Newbies to the cryptocurrency industry are often confused when they hear about blockchain splits, without understanding what it is supposed to entail and what it means for them personally. It should also be noted that regardless of the experience of investors, they are always faced with the pressing question of how to find the optimal solution for storing their cryptocurrencies - in a custodial or non-custodial wallet.
Third party and independent control of private keys
If you're new to the crypto space, you may be confused by some elements of the ecosystem. One of the most important tasks for you is to find the safest way to store your assets, because no one likes to lose money. In the earliest days of cryptocurrencies (about eight years ago), there were very few exchange services and wallets. However, there are now hundreds of wallets and exchanges that offer storage solutions for digital currencies. However, many newcomers may not understand that there is a big difference between custodial and non-custodial storage services.
Who can become a depository account holder in a bank?
To open a depository account, you first need to enter into an agreement with the custodial bank. The conditions for storing securities are prescribed there. Residents and non-residents of the Russian Federation, individuals and legal entities can become owners (depositors) of a depository account in a bank. Sometimes clients become small brokers and other organizations that do not have a license to carry out depository activities. In this case, the depositors are not the owners of the securities, but only manage them in the interests of their clients.
Custodial wallet services
Custodial services include most exchanges, brokerages and platforms that allow you to buy, sell and store digital assets. The custodial business basically involves a third party that offers to protect your assets in their system. People who store digital assets with a third party should understand that they do not have 100% control over their cryptocurrencies. Coinbase is a great example of an exchange and brokerage service that also allows people to store digital assets in wallets. When you download the Coinbase app, which allows you to buy and sell, you may notice that the company bills itself as “the world's most popular cryptocurrency wallet.” You might think that the application is a non-custodial wallet, although this is not the case.
For example, after the last BCH hard fork, the Coinbase exchange and many other third-party services suspended wallets sending and receiving this coin. That is, custodial services can stop your wallets from working, while non-custodial wallets were 100% functional before, during and after the hard fork, because these wallets are not controlled by a third party. In a post on November 13, Coinbase explained to its customers that BCH wallets were recently activated and that in the future they will allow BSV to be processed. Essentially, this meant that if you held BCH on Coinbase before the hard fork, you should have received BSV tokens as well.
Thus, third-party services that reactivated BCH transactions also divided the coins stored in wallets. This again allowed users to make Bitcoin Cash transactions without having to worry about a transaction replay attack (erroneously sending two types of coins when trying to make just one transaction).
However, one of the most important mottos of the cryptocurrency community should be remembered: “If you don’t have private keys, then you don’t have your own Bitcoin.” And this is true for any cryptocurrencies stored on exchanges or wallets, where a third-party service remains the actual owner of your coins. Examples of custodial services include Kraken, Coinex, Bitstamp, Poloniex, Bittrex, Bitfinex, Binance, and many other trading and brokerage platforms (which also typically offer custody).
2 Coinpayments.net
Coinpayments is a custodial wallet that supports almost 2,000 different coins and also provides trading platform services.
Most often used as a cheap and fast gateway for accepting or sending crypto payments. You can work with the service both from a browser and from a mobile device; there are applications for Android and iOS. The service can be integrated as a plugin with many popular online store platforms. You can also buy gift cards from hundreds of retailers through CoinPayments (Adidas, Nike, Uber, etc.). To ensure transactions are carried out instantly, the GAP600 solution is connected.
Non-custodial wallet services provide the user with 100% control over assets
Non-custodial wallet services are platforms that allow users to own their own private keys. The app will either give you a file or prompt you to write a mnemonic phrase, which can be 12-24 random words. The platform, which provides users with the ability to store private keys to their cryptocurrencies, gives the user 100% control over the funds. If you have your private keys in your hands, then you fully own your bitcoins or any other altcoins (of which there are now over 2000).
So, if you had BCH before the hard fork in a non-custodial storage service (wallet), then this would allow you to fully own your BCH and BSV. Non-custodial wallets include Bitcoin.com, BRD, Blockchain, BTC.com, Electron Cash, Copay, Jaxx, Coinomi, Edge and many others that provide users with the ability to store their private keys.
Example mnemonic phrase or private key for Electron Cash
Those users who used this type of wallet (managed personally) had the opportunity to split BCH and BSV immediately after the hard fork. If people store their funds in a wallet that they personally control, then the responsibility for storing the funds and security also falls entirely on them. Owners of non-custodial wallets must split their BCH themselves, unless the software of such wallet offers its own solution for such an operation. If a non-custodial wallet user decides to send some BCH without first separating it from the BSV, then the BSV will be lost after this transaction. Thus, 100% ownership of the private keys from a non-custodial wallet means full responsibility for every action with it, including the division of coins.
Custodian in foreign practice and in connection with ETFs
The term “custodian” in Russia and abroad
In Russia, the term “custodian” is applied to someone who performs only accounting functions; this definition was made by the Central Bank of the Russian Federation in its report. Moreover, the term “depository,” according to the same Central Bank, is applied to that market entity that simultaneously performs the functions of asset accounting, storage, and control over the activities of the company managing the investment fund.
Largest custodial banks
In Europe, there is no division in terminology. The one who keeps the fund's assets and controls the compliance of the actions with the investment declaration is called the custodian.
Ensuring asset safety
The custodian's function is not limited to accepting assets and ensuring their integrity. The official term for defining the activities of a custodian is safekeeping - ensuring the safety of assets. What is the difference? The Central Bank explained that, performing the function of preserving financial instruments, the depository is obliged to:
- register assets in accounts opened for funds in the accounting system;
- store received financial instruments;
- provide the ability to identify stored instruments;
- separate the fund's assets from your own.
Moreover, in case of losses, the custodian will be liable with all his property. Therefore, the Central Bank of the Russian Federation reports, the custodian needs a developed infrastructure and minimization of the risks of loss of assets and rights to them as a result of fraud, poor management or negligence.
As a rule, custodians are banks, but not every bank can claim to be a responsible custodian of assets. In order for a bank to become a custodian, it must obtain special permission from the regulator. The Central Bank of Ireland and the Belgian Financial Services and Markets Authority (FSMA) can play this role.
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Control of NAV in funds
The Central Bank determined that the depository is obliged to monitor the correctness of calculation of the value of the fund's net assets and investment shares, as well as the compliance of the issue, sale and redemption of these shares with the rules of the fund and current legislation.
Expert opinion
Dmitry Dunyashev
Blogger, private investor, project manager real-investment.net
Simply put, the custodian bank ensures that shares are issued in accordance with the number of fund assets, and that dividends are received in the required amount and accounted for properly, in accordance with applicable rules and legislation. If the slightest violation is detected, the custodian will immediately notify the regulator.
In Russia, one of the providers of ETF funds is the Finex company; its custodian and fund administrator is the largest American bank, The Bank of New York Mellon.
What are the risks of losing money invested in ETFs?
The likelihood that money invested in an ETF cannot be returned is extremely low. We omit the moment when the price of ETF shares can drop to zero if it is aggressively managed (with leverage, etc.), in which case market risk will trigger and there will simply be nothing to return to the investor. Otherwise, closing ETFs is common international practice. The fact is that the so-called provider (or issuer) creates the fund and monitors its work. The fund shares themselves are stored in a depository or custodian. The custodian is a separate government-regulated organization, as described above. If it is not profitable for the provider to hold a fund, he has the right to close it or, for example, merge it with another fund.
Investors will receive money back, although they may lose some of the invested funds due to a decrease in the value of the asset and commissions. If an ETF fund is suddenly closed, the provider sells the assets through the custodian. And until all shares are redeemed, the fund will continue to operate. In addition, ETF shares can be sold to the organization that is responsible for their liquidity (market maker).
In February 2022, one of the providers operating on the Russian market, Finex, closed several ETF funds that were not popular. Everything went smoothly and all investors received their money back.
From all this we can conclude that buying ETFs is quite reliable.
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Coin storage solutions should be fully explored
There are many apps and platforms that offer cryptocurrency storage in wallets, but you should be careful when choosing them. It is important to understand the difference between custodial and non-custodial storage solutions (which respectively mean “third-party” and “sovereign” control over cryptocurrency funds). The difference can be huge when it comes to exchange hacks, hard forks, and other events that occur in the cryptocurrency ecosystem. The best way is to research the services or apps you intend to use to store your cryptocurrencies and do your due diligence. Find out whether the solution is custodial or non-custodial; decide for yourself how safe it is for storing your precious digital assets.
#BCH #BSV #coinbase #custodial service
Who will this service be useful for?
Custodial services are primarily needed by people who have recently entered the industry and are not yet familiar with the security system and technical nuances of storing cryptocurrencies. Or this service will be necessary for large investors who have a desire to invest in cryptocurrencies, but do not have the time or desire to deal with wallets and ensuring storage security.
Special storage facilities of exchanges, banks and other custodian services take responsibility for the safety of bitcoins and altcoins.
Professional storage is needed for large investors who have a large number of assets and operate in different markets on an international scale. Custodian services for industrial investors can provide customized services related to:
- the influence of the custodian’s management on the decisions taken by local authorities;
- compliance of activities with international standards;
- risk reduction with additional insurance policies;
- application of modern technologies for information transfer and depository accounting;
- special commission rates for custodians;
- confidentiality;
- information support for the investor about the situation on the digital currency market;
- daily provision of information on the state of the asset portfolio;
- availability of specialists of the required level of training who speak foreign languages.
