Like traditional financial assets, exchanges play a vital role for Bitcoin and other digital currencies. And simply as history has demonstrated in equities and futures markets, crypto exchanges could become a problematic element of the rapidly emerging world of digital assets. On the surface, they appear similar to stock markets, matching buyers with sellers and publishing prices. Yet in lots of ways they differ vastly, potentially exposing investors to risks they may not fully appreciate. That’s worrying government bodies and forcing new exchanges to create approaches to lessen the risks.
1. How can cryptocurrency and stock exchanges compare?
They share a key function, as places to trade assets, nevertheless the similarity ends there. Crypto exchanges both hold an investor’s assets and charge brokerage commissions, functions which can be normally segregated in the world of stocks. That helps to create many exchanges highly lucrative, as carry out the fact the fees they charge are fatter than traditional bourses’. As an example, Japan’s second-biggest crypto venue, Coincheck Inc., was nearly as profitable in 2017 as Japan Exchange Group, operator of the nation’s biggest stocks and derivatives markets. Another crucial difference: While stock financial markets are tightly regulated, their digital-asset counterparts so far have very little, if any, supervision in many jurisdictions.
2. What risks do these differences pose for investors?
Put simply, the protections observed in the stock-trading world don’t exist for cryptocurrencies. The biggest potential danger for an investor is losing an entire investment, whether through theft by hackers through the exchange holding the assets or through the bourse heading out of business. One of the most recent cyberthefts, Coincheck had nearly $500 million in digital tokens stolen in January and 2 South Korean exchanges were breached in June. Half 12 or more of the largest exchanges have failed since mid-2014, some using a hack (including Mt. Gox, when the world’s No. 1 exchange), others after being turn off by the authorities. CoinMarketCap listed 211 major crypto exchanges as of June 20.
That’s among the stranger aspects of these heists. Because transactions for Bitcoin and so on are all public, it’s easy to see in which the coins are — although they’re stolen. However, the thief could make an effort to shake off surveillance by experiencing something like ShapeShift, that offers convert crypto without collecting personal data. Converting coins into a more anonymized currency, like Monero, could conceivably launder them. ShapeShift, which publishes all trades on its platform, stated it blocked addresses associated with the $500 million hack in January. There are also “tumbler” services, designed to obscure both identities and transactions, however the huge total amount of money stolen presents a challenge.
4. How can investors protect themselves?
They are able to keep digital tokens far from exchanges and store them offline, in what’s called cold storage. However, in reality, they don’t often. It’s impractical for frequent traders, that will spread their holdings across several exchanges, according to Henri Arslanian, financial and regulation technology head at PricewaterhouseCoopers LLC in Hong Kong. Some platforms want to raise standards: Gemini Trust Co., hired Nasdaq Inc. to observe for potentially abusive trading in Bitcoin and Ether.
5. What about government oversight?
Authorities around the world are only slowly waking up towards the opportunities and dangers of crypto trading, and their responses have been mixed. While Japan introduced a licensing system for digital-asset exchanges last year, China, after the global center of crypto activity, is now undertaking by far the most strident crackdown. The small Mediterranean island state of Malta is compiling a framework to regulate the sector in a bid to determine itself as being a hub for cryptocurrencies.
6. Are regulators doing anything to protect investors?
There were widespread and repeated warnings to investors, particularly about volatile prices and the potential risk of losing everything. Many regulators also have warned exchanges not to list tokens that could be considered securities under local law. Bank of England governor Mark Carney said in March it was time to terminate cryptocurrency “anarchy” and retain the industry towards the vmywde standards as the rest of the financial system. In April, New York State Attorney General Eric Schneiderman wrote to 13 exchanges seeking details about their internal controls and how they protect customers. The pinnacle from the Kraken bourse, Jesse Powell, slammed his efforts and said that licensing, regulation and market manipulation didn’t matter to many crypto traders.
7. How are exchanges responding?
By fundamentally changing. A whole new generation is emerging, the one that hues more closely to blockchain’s original libertarian ideals and that also threatens to overhaul crypto markets. Known as decentralized cryptocurrency exchanges, these new venues don’t hold client assets and do little more than put buyers and sellers together, leaving the actual transaction to the investors. The program is actually a peer-to-peer platform and will be more transparent in operations and fees compared to the current exchange model, in accordance with one of its proponents, Kelvin Wong, head of communications at OAX Foundation, a Hong Kong-based decentralized exchange developer.
8. Do these represent the future of crypto trading?
That depends the person you ask. Sam Tabar, strategist at AirSwap, which opened a decentralized venue in April, predicts that traders migrating towards the new model will likely be this year’s big crypto story. But others including Chia Hock Lai, president of the Singapore Fintech Association, say the new types of bourse have their own particular issues, like an inferior user experience and reduce levels of technical support. For David Lee, author from the Handbook of Digital Currency, decentralized venues will in five to 10 years become the main avenue for trading cryptocurrencies.