With the developments in the digital asset space continuing at a rapid pace, institutional participation in the decentralized economy remains on the rise despite the bearish conditions of the market. We are now entering what we call the Custody 3.0 era, marked by greater regulatory clarity, licensing and compliance requirements, and universal connectivity across on-chain applications in the Web3 space.
As more corporations enter the digital asset industry for various strategic reasons, it’s on digital asset custodians to align development priorities with the needs of clients, adapting to market conditions and emerging trends as they arise.
How can we ensure that DeFi is ready for financial institutions?
With an increasing number of institutions entering the DeFi space, from banks and insurance companies to fashion houses, there has been a need for a solution that is fit for enterprise use, complete with functions that retail wallets don’t offer. Considerations such as compliance, counterparty risk and AML screening have to be taken into account, as well as the issue of providing adequate permissions for individuals in the organization. This has signaled that service providers, such as custodians, are required to support institutions in safely integrating digital assets into their business operations.
What is Hex Trust doing to achieve Custody 3.0?
In the most simple sense, Custody 1.0 describes the earlier days, when a seed phrase or private key was written on paper, ripped up and given to multiple people for safekeeping. Custody 2.0 then saw the birth of institutional grade custody, characterized by a regulated license infrastructure solution starting with custody. This stage also involved more complex technologies such as multi-party computation (where keys are shared and distributed) as well as hardware security modules for tamper resistance and key management.
The Custody 3.0 era has evolved from this, to include licensing by regulatory frameworks, Soc2 reporting from regulated service providers and regular testing to ensure things are operating in a compliant manner.
Most importantly, Custody 3.0 brings about universal connectivity. Investors are typically no longer satisfied with being able to just buy and hold digital assets. This has brought about a need to participate in the DeFi space and the many number of blockchain protocols, increasing token standards, security tokens, NFTs along with requiring access to DeFi services including staking, delegating, wrapping/unwrapping, lending or borrowing within the safety net of a regulated custodial platform.
What does a partnership between Metamask Institutional and a custodian look like?
Metamask Institutional offers a product that allows for widest access to Web3 for any organization, combining the basic functions of being able to initiate a transaction with multi user permissioning governance policies and a wide variety of workflows that an organization might require. As no two organizations are alike, different solutions are required to support their unique use case and Metamask Institutional also acts as an aggregator platform that connects users with a broad variety of custodial integrations provided by regulated entities such as Hex Trust. These partnerships provide institutional grade custodian services and the safekeeping of digital assets under a licensed regulatory framework that is compliant in operational efficiency, which, when combined with the accessibility of MMI, forms the basis of Custody 3.0.
What are some common misconceptions about custody and how is custody in digital assets truly defined from both a legal and technological perspective?
There can often be misunderstandings in the way that custodians hold assets. While some may believe that the assets held by custodians are recorded under the custodian’s name, at Hex Trust, an agreement is entered into with clients to ensure that ownership belongs to the client and not Hex Trust. This means, if there were something that were to happen to the custodian, custody assets are completely separate from their balance sheet and these assets are segregated both on chain and from a legality perspective.
What are the key differences between engaging with centralized finance and decentralized finance?
In a centralized approach to Web3, there are certain restrictions that limit users to buy, hold or sell. Decentralized options however, typically give a wider access to Web3 natively without going through an intermediary and access to anything that the ecosystem was built to do. This has led to a proliferation of things that can be done on Web3, including lending, borrowing, staking, hedging, batch transactions, and NFTs.
Levels of counterparty risk are also different between the two. More mature markets see established rules, however at the current stage we see that institutions are still awaiting regulatory clarity. DeFi also sees the counterparty risk in addition to protocol risk, creating a strong argument for the institutionalization of the space.