Popular myth holds that pirates of the 17th century would squirrel away bounty beneath the sands of the Caribbean, hiding treasure where no one else might find it. It was a primitive form of security: the less accessible, the better.
A reincarnation of this semi-apocryphal practice has risen, strangely, to become the dominant method for securing virtual wealth in the cryptocurrency era. People use “cold storage,” meaning they stash their private keys—the password-like secrets that grant them ownership of Bitcoin and other blockchain-based assets—offline. Investors lock these keys on computers disconnected from the Internet to ward off hackers. They write the codes on strips of paper and stash them in safety deposit boxes to discourage thieves. They even bury them inside granite mountains, a habit that hearkens to dragon-besieged dwarves in fantasy fiction.
Cold storage is imperfect—and not just because bad stewards can lose a person’s money for good, as the recent example of the Canadian cryptocurrency exchange QuadrigaCX has made painfully apparent. The approach robs cryptocurrencies of the very thing that may one day make them compelling: usability. For starters, freezing assets hinders traders from taking advantage of the market’s frequent, fleeting fluctuations. And as the technology shifts from a phase of rampant speculation to one of utility, cold storage will restrict people from participating in so-called cryptoeconomic networks, systems of financial incentives designed to support and improve blockchain projects through game-like activities. (See Ethereum’s planned update to “proof of stake” and Stellar’s inflation pools, for instance.)
Investors who fail to take up active roles in these networks will lose out. “Imagine holding traditional equities and not being able to capture dividends,” says Nathan McCauley, CEO and cofounder of Anchor Labs, a cryptocurrency custodial startup that has set out to solve just this problem. “The cold storage providers are effectively going to be dropping dividends on the floor.” (As part of the terms for a demonstration of the company’s new product in January, Fortune agreed not to reveal details about the technology; suffice it to say the service uses a clever combination of biometrics and behavioral data, multiple approvals, and human reviews to secure people’s cryptocurrency without resorting to cold storage.)
The potential wastefulness of the cold storage-status quo could eventually have legal ramifications too. As Sherwin Dowlat, an analyst with Satis Group, a digital asset advisory firm, warned in a September 2018 report, partners in investment funds may come to consider non-participation in cryptoeconomic networks as “a breach of fiduciary duty.” Leaving money on the table in this way, in other words, could be interpreted as an act of negligence.
Chris Dixon, an investor at Andreessen Horowitz, one of the earliest venture capital firms to become bullish on cryptocurrency, sees issues relating to secure storage as a fundamental obstacle to progress in the industry. “Custody is the single biggest piece of infrastructure holding back the growth of the space,” he tells Fortune. (It’s this belief that spurred Dixon to plunk down millions of dollars on Anchor a year ago.)
Given the importance of custody, it’s no surprise that so many businesses are angling for a slice of the pie. With its differentiated approach, Anchor will be taking on the likes of Coinbase, Gemini, BitGo, Xapo, and Kingdom Trust, whose cold storage options dominate the market at present. Meanwhile, warships loom on the horizon in the form of Fidelity and Bakkt, a cryptocurrency-focused subsidiary of the company behind the New York Stock Exchange, both of which plan to debut product offerings this year.
For Anchor and the rest of blockchain’s buccaneers, the hunt for buried treasure has just begun.
Last week’s Ledger dispatch incorrectly said that IEX, an upstart stock exchange of Flash Boys fame, had no listings. It added its first in September. We regret the error.
THE LEDGER'S LATEST
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11 More Universities Join $50 Million Blockchain Research Program by Jeff John Roberts
To the Moon… Big banks BB&T and Suntrust are tying the knot. Challenger bank Monzo is mushrooming. A Bitcoin price bump. Bitcoin for biology. Bullish on a Bitcoin ETF. Goldman Sachs and Point72 pour $44 million in a credit card startup. You can buy stocks (sort of) on Abra. Big business wants “the Amazon version of blockchain.”
…Rekt. Wells Fargo suffers outages. How to dethrone the Visa and Mastercard duopoly. South Korea hit hard by crypto slump. Tips to Amazon drivers pay base salaries, not bonuses. Scammer sentenced to prison. This crew gives used car salesmen a bad name. The bears go marching two by two, hurrah, hurrah.
BALANCING THE LEDGER
Jalak Jobanputra, founder of Future Perfect Ventures, dropped by Fortune’s Balancing The Ledger studio to discuss how blockchain startup valuations are faring in the post-bubble wintertime. She says this bearish investment period reminds her of the aftermath of the dot-com boom.
QuadrigaCX’s quagmire…One of Canada’s biggest cryptocurrency exchanges has found itself in a pickle. Gerald Cotten, the company’s late CEO, supposedly managed the business from a password-protected laptop computer. Because Cotten lacked a backup plan, his death has had the unintended consequence of trapping millions of dollars of customer funds, so the business claims, in an inaccessible virtual vault. Here’s a look at the situation by the numbers.
24 days—Time remaining on the 30-day stay of action granted by a Canadian judge to Jennifer Robertson, widow of the QuadrigaCX’s late CEO. After this period, unhappy investors seeking to be made whole can pursue claims against the company.
C$250 million—Amount owed to QuadrigaCX’s customers. About C$70 million of the exchange’s balance sheet is in cash, Robertson said in an affidavit, while C$180 supposedly remains locked up.
115,000 people—Estimated size of the angry hoard that wants its money back.
MEMES AND MUMBLES
Marathon man. Bitcoin enthusiasts have been passing around a “lightning torch” payment on the so-called lightning network, a payment rail built atop Bitcoin. The game, which began as a social experiment, asks each recipient to add a fraction of a Bitcoin to the pot and pass it onto another person. That new torchbearer is expected to repeat the process and pay it forward.
The virtual flame, now worth more than $100, has passed through more than 180 hands, including those of Jack Dorsey, Square CEO and Twitter cofounder. Changpeng Zhao, also known as “CZ,” CEO of cryptocurrency exchange Binance, was, at press-time, the latest person to receive it. He has been prodding Elon Musk to go next.
Don’t drop the baton, Elon.
FOMO NO MO'
Don’t miss out: Bruce Schneier doesn’t trust the blockchain. The eminent cryptographer, author, and Harvard Kennedy School teacher, torpedoed the technology in an op-ed for Wired. His main criticism is that blockchain replaces trust in people, institutions, and laws with trust in code, which can be buggy and insecure. Even if Bitcoin’s blockchain has proven resilient since its creation, its accoutrements, such as digital wallets, exchanges, and so-called smart contracts, are a continual disaster. “Would you rather trust a human legal system or the details of some computer code you don’t have the expertise to audit?” Schneier writes.
Also, trigger warning: “Honestly, cryptocurrencies are useless.”