Non-bank digital asset custodians continue to adapt to a cryptocurrency bear market

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In the non-bank sector, where all the providers originated in the cryptocurrency markets, the most interesting development is the burgeoning role of custodians in supporting access by traders and investors to digital assets on multiple blockchain networks. By allowing market participants to trade and settle transactions on multiple exchanges without assets moving out of custody, providers hope to boost transactional activity in the cryptocurrency markets.

The partnership announced on 3 November 2023 between two digital asset custodians - BitGo and Copper – illustrates this phenomenon perfectly. It brings together the Copper ClearLoop service (which allows users to settle trades on eight cryptocurrency exchanges off-exchange) with the BitGo Go Network (which also settles transactions on one cryptocurrency exchange in assets held in custody by the BitGo Trust Company). In theory, the combination creates network effects that will increase transactional activity.

The partnership with Copper ClearLoop is not the only step BitGo has taken in 2023 to adapt to changed conditions in the cryptocurrency markets (see Table 1). The firm has formed two other partnerships (with Swan and Hana Bank), both made and withdrawn a takeover offer for another digital asset custodian, secured a custody licence in Germany and raised US$100 million.

BitGo is now the coming non-bank digital asset custodian. Although Coinbase has historically had more AuC – a function of its status as the dominant cryptocurrency exchange – BitGo is expanding in multiple directions.

It has not disclosed an AuC figure since November 2021 (it was US$64 billion versus the US$255 billion Coinbase had at the time) but if its share of the cryptocurrency market is aligned with its 20 per cent share of all Bitcoin transactions, it might easily be double that November 2021 figure. BitGo is also one the few non-bank custodians with substantial revenues from sales of technology.

But the real importance of BitGo is what its behaviour says about the likely development of digital asset custody. The tie-up with ClearLoop addresses what has become a major concern in the cryptocurrency markets in the wake of the failure of FTX: how to stake, lend and trade on cryptocurrency exchanges without exposing assets when there is a lack of central counterparties to trade against as well as a shortage of regulated exchanges. Though the “walled garden” solution is not unique to ClearLoop, the Copper network of exchanges is the most extensive.

Likewise, BitGo exemplifies a maturing approach to growing and valuing cryptocurrency businesses after the events of 2022. The company was reported to have filed a lawsuit against Galaxy Digital Holdings after Galaxy abandoned its bid – conceived at the height of the cryptocurrency bubble in May 2021 - to acquire BitGo. BitGo withdrew its own offer for Prime Trust in June 2023 when problems became apparent. The company was also able raise $100 million in a bear market for cryptocurrency businesses, indicating investors believe in the strategy.

And the strategy is likely presaged on acquisitions as well as partnerships because the consolidation highlighted in the first issue of the DACG continues. (1) BitGo will not be the only buyer. Indeed, as a potential consolidator, Ripple, the blockchain-based cross-border payments company with a market capitalisation of US$33 billion, is the most intriguing new entrant to the digital asset markets (see Table 2).

Ripple has become interested in digital assets relatively recently. In 2022 the company expressed interest in purchasing assets of the failed cryptocurrency lender Celsius Network, and in May 2023 paid US$250 million for METACO, the leading digital asset custody technology provider (METACO counts Citi, DBS, HSBC, Northern Trust, BBVA, BNP Paribas and DZ Bank among its clients). In September 2023 Ripple moved to buy Fortress Trust, a Nevada-based custodian that had lost customer funds to a hacker but dropped the bid two weeks after launching it. Fortress still seems to be operating but no news has emerged since.

The strategic logic behind the Ripple interest in digital assets is that the custody market will institutionalise at scale, creating a new revenue stream for the company. METACO, which has acquired a number of regulated banks as clients, is an obvious choice for any buyer that believes institutional money will transition to digital assets soon. In theory, METACO in turn gains access to the banks already using Ripple’s cross-border payments services (though the payments and securities businesses of banks are rarely well aligned).

Lastly, BitGo illustrates the growing trend among non-bank digital asset custodians to secure operating licences in multiple jurisdictions. BitGo has two State level trust company licences in the United States (from the South Dakota Division of Banking and NYDFS), an anti-money laundering certification from the VQF self-regulatory organisation in Switzerland (which is supervised by the Swiss Financial Market Supervisory Authority (FINMA)) and now a digital asset custody licence from BaFin.

Other digital asset custodians are thinking and acting the same way as BitGo and Ripple. Zodia, the digital asset custodian controlled by Standard Chartered Bank, Northern Trust and SBI Holdings, announced the extension of its services to Singapore (September) and Hong Kong and Australia (in October) precisely because the three markets are institutional rather than retail. Even the new staking service offered by Zodia in partnership with Blockdaemon is aimed at institutional clients. (2)

Opening new operations locally, particularly for institutional business, requires operating licences. Zodia is already registered with the Financial Authority (FCA) in the United Kingdom, the Central Bank of Ireland (CBI) in Ireland and the Comission de Surveilance du Secteur Financier (CSSF) in Luxembourg. Custody is not yet a licensed activity in Singapore, but Zodia is an early candidate for the new licensing regime administered by the Hong Kong Securities and Futures Commission (SFC). New digital asset regulations are also about to be introduced in Australia.

An increase in the number of physical locations from which digital asset custodians offer services is a discernible trend in the Future of Finance database. More than half the providers in the database have more than one location and a third more than four (see Chart 2).

An increase in physical outlets has necessitated an increase in local authorisations - registrations and licences – to provide the services, especially as the number of markets putting formal regulatory regimes for digital asset custody in place (usually as a sub-set of wider regulation of cryptocurrencies and digital assets) has increased. More than a quarter of the digital asset custodians in the Future of Finance database have secured more than one licence or registration already (see Chart 3) and this is bound to increase as the industry consolidates and globalises.

Komainu, the Nomura-backed institutional-grade digital asset custodian, is a case in point. In October 2023, the company announced that it had received approval from the FCA in the United Kingdom to register as a custodian wallet provider under the Money Laundering, Terrorist Financing and Transfer of Funds (Information of the Payer) regulations 2017. (3) Komainu, which was first regulated from Jersey by the Jersey Financial Services Commission (JFSC) in November 2019, had earlier acquired a VASP licence from the Virtual Assets Regulatory Authority (VARA) in Dubai and joined the register of VASPs maintained by the OAM in Italy. (4)

Hex Trust, another digital asset custodian aimed at institutional investors, has also expanded its regulatory permissions. In November 2023, following the example of Komainu, it obtained a VASP licence from VARA in Dubai. (5) Hex Trust, which has always pursued regulatory approval in all the jurisdictions where it operates, is also registered as a Trust Company Service Provider (TCSP) with TCSP Registry in Hong Kong, as a DASP with the AFM in France and as a VASP with the OAM in Italy. Hex Trust has a Capital Markets Service (CMS) licence from the Monetary Authority of Singapore (MAS) and has applied for a Digital Assets and Registered Exchanges licence in the Bahamas and a Payments Services Act (PSA) licence in Singapore.

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(1) See Future of Finance, Digital Asset Custody Guide: The Future Looks Like the Past, Issue 1, pages 46-48.

(2) Press release, Zodia Custody Launches Institutional Staking in Partnership with Blockdaemon, 6 June 2023.

(3) Press release, Komainu Receives Crypto Registration from the FCA, 6 October 2023.

(4) Komainu, like BitGo, has also joined the Copper ClearLoop network. See page 28 above.

(5) Press release, Hex Trust Receives Virtual Asset Service Provider (VASP) License from VARA in Dubai, 15 November 2023