Artem Duvanov
Self-custody vs. Digital custodian vs. Multisig with cosigner: choosing the right safekeeping model
JUNE 5, 2019

Custodian banks play a vital role in protecting the financial assets of investors from theft or loss and providing value-added services. Nowadays, you can't imagine safekeeping of securities without custodians.

Customers should carefully assess the custody risk, which stands for the risk of loss being incurred on assets in custody as a result of a custodian's insolvency, negligence, misuse of assets, fraud, poor administration or inadequate record-keeping.
How asset tokenization change the role of custodians? Will the custody risk be reduced or possibly eliminated at all?

Let's look at two current custody options for tokenized assets, and then proceed with the balanced model that maintains benefits of the extremes while eliminating their drawbacks.
The first model is called "self-custody." It may be expressed with the crypto slogan "be your own bank." The model assumes that a customer holds tokenized assets with the private keys that he keeps in secret from anybody else. With all its benefits, the model has a significant disadvantage. The customer should be highly capable of counteracting cyber-security threats.

Because of that, many customers would want and quite often have to shift responsibility for the safety of assets to professional custodians.
Digital custodian
That's why the second model, called "digital custodian," is getting popularity. It is advocated by people and companies who get used to relying on custodians in traditional security markets. A digital custodian holds digital assets using his private keys on behalf of his clients. The model assumes the role of the custodian is very similar to the one of paper securities.

The disadvantage of this model is that the customer faces the custody risk, which may be difficult and expensive to mitigate.
Multisig with cosigner
The third model is called "multisig with co-signer." In this model, the asset is secured with a multisig consisting of 3 private keys with any two of them enough to legitimately sign a transaction. The customer holds the first key, the custodian holds the second key, and the key recovery service keeps the third one. For example, in D3ledger, we've built our safekeeping service with multisig protection.

In normal circumstances, both the customer and the custodian sign the transaction on the order of the customer. The model eliminates the custody risk, and at the same time protects the asset if the customer key is stolen or lost. In that case, the key recovery service signs a transaction on the order of the customer after a thorough check of its identity.

This model makes use of unique features of digital assets to eliminate custody risk while allowing the customer to shift responsibility for the safekeeping of assets to custodians.
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About the author

Artem Duvanov is the leader of D3ledger project and Head of Innovation at National Settlement Depository, Moscow Exchange Group. Connect with Artem on Linkedin.
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