Custody, long the poor relation of the traditional securities industry, has emerged as the foundation of the digitalization of the capital markets.
That is because it is confidence in the safekeeping of the private keys that unlock ownership of crypto-currencies and security tokens that will determine the level of institutional investment in both. Polysign subsidiary Standard Custody & Trust has just raised more than US$80 million to build a blockchain-based, institutional-grade custody service for asset managers. Future of Finance co-founder Dominic Hobson spoke to CEO Jack Mcdonald.
Questions being asked
1. Independent institutional custody has been in short supply in the crypto-currency industry, which has made it hard for institutional investors obliged to use an independent custodian to invest in security tokens (as opposed to crypto-currencies). What are institutional asset managers telling you about what they need in terms of custody services?
2. Standard has already raised US$53 million. What are the (a) short term and (b) long term opportunities the investors saw?
3. One of your biggest investors is Cowen, the investment bank, presumably because their hedge fund and other asset management clients are active in crypto-currency trading and investment. Can a buy-side/sell-side combination of that kind drive growth of security tokens as well?
4. Standard Custody & Trust Company received a licence from the New York State Department of Financial Services (DFS) to operate as a limited liability trust company. Why did that make more sense than getting a licence from FINRA or the CFTC or the OCC or the SEC?
5. What services does the DFS licence enable you to provide?
6. Does a DFS licence enable Standard to offer services nation-wide?
7. Why not get a full banking licence?
8. In regulatory terms, digital asset custody in the US seems complex. In July 2020 there was excitement when the US Office of the Comptroller (OCC) published a letter allowing national and state banks and thrifts to safekeep digital assets as well as orthodox assets. Wyoming has agreed a full legal and regulatory framework (emphasising the advantage of its “bailment” law) and encouraging banks and trust companies to offer custody from the State. You must have navigated this regulatory minefield. What governed your eventual choice?
9. Standard has an integrated escrow platform. What is the necessity for (and advantages of) escrow in the digital asset markets?
10. Digital asset custody is a competitive as well as complex field (providers include Avanti Bank and Two Oceans Trust in Wyoming, Hex Trust and Onchain Custodian in Asia and Trustology in the UK). We also see major brokerages (Fidelity) and custodian banks (Northern Trust and Standard Chartered Bank, BNY Melon and State Street) entering the market. What is your competitive advantage?
11. What additional regulatory obligations does/will security token custody impose on digital asset custodians (as opposed to custodying crypto-currencies only)?
12. Security tokens, unlike crypto-currencies, need servicing – income collection, tax reclaims, proxy voting, valuations, regulatory reporting, lending, collateral management etc., large parts of which remain inefficient. How can Standard improve asset servicing?
13. Security tokens will also incorporate smart tokens to automate asset servicing (e. g. to pay dividends, collect withholding tax reclaims, notify and instruct corporate actions). How does that change the asset-servicing function of a digital custodian?
14. Do you see DeFi, with crypto-currency being deposited as collateral against token, and indeed against Stablecoins, as an opportunity for Standard Custody & Trust?
15. Standard Custody & Trust Company is a subsidiary of Polysign, which has developed a secure blockchain technology of its own for safekeeping assets, recording transactions and making payments. What advantages does it offer Standard?
16. One engineering problem with blockchain is lack of scalability, which make it impossible to support institutional transaction volumes. Have you solved it (and, if so, how)?
17. Won’t a private, proprietary blockchain technology make it difficult to inter-operate with other blockchain networks?
18. Security of private keys is obviously crucial to crypto-currencies (lost crypto-currency is lost forever) and only slightly less crucial to security tokens (lost tokens can be replaced). What technologies are you using to actually custody assets (e. g. cold storage, multi-sig, MPC)?
19. On-boarding investors has become a tiresome process in terms of KYC, AML, CFT and sanctions screening. Have you developed a view on the value of digital identities in digital asset custody?
20. Will your focus remain institutional, or are you thinking of servicing retail business as well?
21. Are you planning to offer services outside the United States?
22. What are the use cases you are currently working on? Commercial real estate and privately managed assets (including venture capital funds) have been identified as attractive growth opportunities. Do you agree?
23. The fund markets are also mentioned as an opportunity. At the moment funds are complex and heavily intermediated – custodians, fund accountants, transfer agents, and distributors all play a part. What is your offer to asset managers running funds?
24. Will your focus remain institutional, or are you thinking of servicing retail business as well?
25. Are you planning to offer services outside the United States?
26. What is your message to the major global custodian banks (e. g. cost savings, adapt-or-die, huge revenue opportunities)?
27. What is your best guess of how large the security token markets could be within five to ten years (e. g. half the size of the securities markets by 2031)?