The evolution of crypto asset custody is an urgent priority, demanding rigorous audit controls and next-generation key management to rebuild trust.
Following the 2022 crypto market collapse, concerns over counterparty risk have dominated crypto risk management discussions, emerging as a key driver shaping the future of custody in 2023 and beyond.
As this future unfolds, regulatory frameworks around custody grow clearer, subjecting all operationally unsound practices to scrutiny. The flawed methods once employed by FTX—storing assets in single-key cloud wallets, lacking cybersecurity teams, and neglecting systematic key management—will no longer be tolerated by clients or regulators.
Mick Horgan, Custody Lead at Bullish, notes:
"I recall reviewing FTX’s website, puzzled by their claims of fast withdrawals for large trades while supposedly maintaining secure custody. The answer? FTX operated in direct opposition to Bullish’s standards."
With digital asset adoption rising, third-party custodians face unprecedented scrutiny from both crypto participants and regulators aiming to establish safer industry benchmarks.
The Pillars of Secure Custody
A multi-layered custody system hinges on two fundamentals:
- Key Management: Distributed, offline storage with isolation protocols.
- Audit Controls: Regular independent reviews (e.g., by Big Four auditors).
This dual approach elevates security standards, prevents "black swan" events like exchange collapses, and fosters institutional trust.
Key Management: Best Practices for Custodians
1. Eliminate Single Points of Failure
- Private keys must never reside in one location. Use cold, warm, and hot wallets to balance accessibility and security.
- Offline keys should dominate holdings (e.g., 90% in cold storage).
2. Layered Safeguards
- Store offline keys in geographically dispersed, tamper-proof hardware.
- Online keys require HSM-protected (Hardware Security Module) cloud servers.
- Enforce multi-signature protocols with distributed approvals.
3. Recovery & Redundancy
- Implement disaster recovery systems with encrypted key backups.
- Use blockchain oracles to verify transaction authenticity and deter MITM attacks.
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Audit Controls: Building Institutional Confidence
Internal Controls (Bullish’s Framework)
- Separation of Duties: Isolate key generation, storage, and transaction approvals.
- Asset Segregation: Client funds must never commingle with corporate assets.
- Real-Time Monitoring: 24/7 surveillance of wallets/transactions + reconciliation.
- Access Protocols: Mandate MFA and role-based permissions.
External Audits
- Reserve Proofs: Verify solvency via third-party audits.
- Compliance Checks: Annual assessments by accredited auditors (e.g., PwC, Deloitte).
FAQ: Addressing Custody Concerns
Q: What if I lose my keys?
A: Reputable custodians use backup systems to prevent total loss, unlike self-custody.
Q: How do I vet a custodian’s security?
A: Demand transparency on audit frequency, key storage methods, and insurance coverage.
Q: Are multi-sig wallets foolproof?
A: Only if keys are stored separately. FTX’s mistake was clustering all three keys online.
Conclusion: Raising the Bar for Crypto Custody
The FTX collapse underscored that custody is foundational—it’s about securing keys through obsessive controls. By adopting institutional-grade standards, the crypto industry can transition from speculative frontier to a trusted pillar of global finance.
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