When it comes to depositing cryptocurrency onto an exchange, there are important considerations to keep in mind regarding the safety and security of your funds. According to Simon Dixon, CEO of BnkToTheFuture, it is crucial for customers to exercise caution and select reputable exchanges to avoid potential risks. Dixon points out examples such as FTX, where customer funds were allegedly mishandled and used for other purposes, leading to a loss of assets for clients.
It is not just outright fraud that poses a risk to customers. Adrian Przelozny, CEO of Independent Reserve, highlights the distinction between exchanges and brokers. Exchanges typically keep customer assets in their own storage, ensuring that they cannot use these assets for their own profit. On the other hand, brokers may hold customer assets on other exchanges to increase their own funds, but this exposes customers to counterparty risks. If the exchange holding the assets goes bankrupt, the customer’s assets could be lost as well.
One cautionary tale involves Australian-based crypto broker Digital Surge, which transferred $23.4 million worth of assets to FTX shortly before its collapse. As a result, Digital Surge found itself in hot water and had to be bailed out, while crypto lender BlockFi and crypto exchange Genesis ended up filing for bankruptcy due to their exposure to the FTX collapse.
To prioritize the safety of funds, exchanges focus on holding customer assets securely. They store assets in a combination of hot and cold wallets. Hot wallets are connected to the internet and facilitate quick transactions, but they are more susceptible to security threats such as hacking. On the other hand, cold wallets are stored offline and provide greater security against hackers.
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While it would be ideal to have 100% of customer assets in cold wallets for safety reasons, this is not feasible for liquidity purposes. Therefore, exchanges typically only keep a fraction of their total assets in hot wallets to facilitate daily trading volume. For example, Independent Reserve keeps 98% of customer assets in a cold storage vault, with the remaining 2% for daily trading.
It is important for customers to be aware of these processes and understand where their funds are being held. If a broker is storing customer assets on another exchange, such as Binance, the customer should be informed that retrieving the assets may be challenging if anything goes wrong with the intermediary exchange.
Regulatory compliance is another crucial aspect to consider. Exchanges that are registered as virtual asset service providers are subject to higher standards and must maintain comprehensive records verifying the ownership of customer assets. They are also subject to regular regulatory inspections. Failure to comply with these requirements can result in legal troubles, as seen with Coinbase and Binance’s issues with the U.S. Securities and Exchange Commission.
In conclusion, customers should exercise caution when depositing cryptocurrency onto exchanges and choose reputable platforms that prioritize the safety and security of funds. Understanding the distinction between exchanges and brokers, as well as the storage methods used by exchanges, is crucial to making informed decisions and mitigating risks associated with counterparty and regulatory compliance issues.
