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The hype surrounding cryptocurrency rallies inevitably brings new investors into the fray – and with signs that the next cryptocurrency bull market may already be upon us, now is the time to take stock of what it means to secure your investments in this promising asset class.
This article is for newcomers and seasoned investors alike and will take you through everything you need to know to securely custody your crypto investments. We focus on the common pitfalls investors can succumb to in regard to crypto custody – including risks surrounding private key management and using cryptocurrency exchanges for long-term storage.
Bitcoin has more than doubled in value since January.
A public cryptocurrency address, or public key, is a string of characters and acts a lot like a bank account number for your cryptocurrency wallet. To receive cryptocurrency, another user sends cryptocurrency to your public key.
The public key is also associated with a unique private key which is similar to a bank PIN. But unlike your bank account, the private key is the only layer of security standing between thieves and your assets. This makes the protection and storage of the private key a crucial challenge.
Storage Options – hot or cold wallets
Wallets can be broadly categorised as either Hot or Cold. Hot wallets have their private keys stored on a device connected to the internet, like a cell phone or laptop. This risks the private key being intercepted at the time of wallet creation, allowing a hacker to bide her time and strike after significant value has been transferred into the wallet. Even once the key is encrypted, cyber risks like phishing attacks, keyloggers, viruses and hacks remain a real threat; not to mention the more sinister risk of physical attacks and kidnappings.
Hot wallets are best suited for smaller-value transactions and balances, where the benefits of flexibility and convenience outweigh the high-security risks.
In contrast, Cold wallets have their private and public keys generated and stored on a device that never connects to the internet.
The simplest example is a paper wallet – in which the private key is generated securely offline and simply written down and stored (in a safe, vault, etc.). With a paper wallet, you cannot do much more than receive payments, as making a payment would require you to import the private key into a wallet that is subsequently connected to the internet – rendering the wallet a Hot wallet from that point onward and requiring the cumbersome setup of a new cold wallet to replace the old.
Hardware wallets, such as the popular Ledger wallets, were designed to overcome this downside. These secure devices store private keys and are able to facilitate blockchain transactions from your wallet without exposing anything sensitive to the internet.
However, the problem is not even fully solved by hardware wallets.
Both Cold and Hot wallets unfortunately share a vulnerability in backups. For a Hot wallet, if the device breaks or becomes unusable for any reason, without a backup of your private key, your assets are lost.
Backups typically take the form of a seed phrase – a long series of dictionary words that encodes the more complex private key. To help ensure security, this should also never be exposed to the internet.
Most typically write this on a piece of paper (making the backup simply a paper wallet), but more creative options that aim to protect against physical risks like fire and flood also exist. This backup is then usually placed in a safe or secured in a secure location like a safety deposit box or similar.
As a crypto investor working alone, risks around your backups are a vulnerability that can never be fully eliminated.
Relying on a Crypto Exchange
While the idea of having complete control over your digital assets is empowering, the associated challenges as well as the lack of sufficient education lead many to rely on the same platforms they use for purchasing cryptocurrency – centralised cryptocurrency exchanges – for the long-term custody of their crypto investments. Aside from these exchanges being obvious targets for hackers, their opaque and sometimes unsustainable business practices mean that funds may not be safe even without the threat of a hack, as users of FTX, Celsius, and others found out in 2022.
Moving closer to home, South Africans who are invested through one of the local cryptocurrency platforms found out earlier this year that 25% of their cryptocurrency had been frozen – and may be lost forever unless foreign authorities can recover the assets.
Would you trust your savings to one of these entities?
And while exchanges may have the technical expertise to securely store assets for the long term, their business models necessitate an impersonal relationship for all but the largest of clients – opening the door for users to fall prey to security breaches and identity theft.
The Alternative: Using a Custody Provider
The phrase “be your own bank” has become a rallying cry for enthusiasts advocating self-custody. However, the reality is that the average bank customer has no desire to take on this massive responsibility over their finances and investments.
Jaltech has a valuable proposition for cryptocurrency investors who are uncomfortable with the responsibility of self-custody – mitigating the single point of failure common to all self-custody approaches.
Unlike exchanges, Jaltech has the capacity to treat each client with care – sitting down with you to facilitate the transfer of your assets into secure storage (we can also help with your purchase!). Thereafter your assets are secured using gold-standard technology provided by Fireblocks – an $8 billion crypto unicorn whose patented technology helps secure hundreds of billions of dollars in crypto assets for some of the world’s largest organisations.
Protection against unauthorised access
Withdrawals are initiated by you through convenient channels like email or the Jaltech investment platform and are verified via video call for larger transactions.
Before any funds flow, the request is reviewed and approved independently by three senior members of Jaltech management amongst whom the private key is divided and distributed. Fireblocks’ powerful Multi-Party-Computation technology allows transactions to be approved without the private key ever being fully formed on a single device.
This means that it is impossible for any of these approvers to unilaterally move funds. For transactions over a specified value threshold, an independent third party outside of the organisation also steps in as an added safeguard.
The problem of secure backups is also solved. The private key backup is split into multiple parts and stored physically in separate, secure geographic locations. The majority of these parts need to be accessed in order to facilitate the backup – however – should a minority of these keys be compromised, the backup remains possible and a new key would be constituted after recovery.
With the likely influx of new market participants during a continued crypto market rally, the decision between self-custody and utilising a custody provider is one that all newcomers will need to seriously assess. Similarly, seasoned investors may need to reassess the appropriateness of their custody setup as their crypto wealth accumulates.
While self-custody grants autonomy, it comes with inherent risks that demand a vigilant approach. Custody providers offer a compelling alternative with enhanced security and a user-friendly experience.
As the crypto space continues to mature, striking the right balance between control and security will be key for investors looking to safeguard their digital assets. Consider your risk tolerance and explore the options that align with your financial goals and security priorities.
If you would like to know more information on Jaltech’s Cryptocurrency Safety Deposit Box, click here and complete the form and a representative of Jaltech will contact you.
Jaltech manages over R2 billion of customer assets and investments and offers a full suite of cryptocurrency products including Custody, Trade Execution, and regulated Crypto-backed Securities.
Jaltech Digital Custody (Pty) Ltd has a pending application for a Crypto Asset Service Provider license (FSP 53557) through the FSCA as part of the licensing regime coming into effect next year.
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