The shifting sands of Binance and their institutional custody
Following the seismic activity in crypto, Binance, which is ranked among the largest cryptocurrency exchanges in the world, have announced to the market that they will offer institutional custody. The move follows multiple industry questions in the FTX bankruptcy that customers assets were not segregated and may have been used to fund industry acquisitions, although Sam Bankman Fried on Substack and Twitter denies this. With this as a backdrop the question Citywealth pondered was, if Binance institutional custody is still operated by Binance without independent oversight nor clear cut information about how it operates, is it more of the same industry problem: confusing entities in multiple jurisdictions that leaves the investors thrown to the courts when things go wrong?
One thing that has remained unclear to me, is, if there is an industry benchmark for what is referred to as ‘institutional’ mainly because in the TradFi (traditional finance) world this would refer to a bank like Barclays or UBS but in crypto it does not. So, I asked a crypto native and leading litigation barrister for their views on this definition and the Binance institutional custody offering.
Karen Jones, Editor, Citywealth: How do they define institutional (always seems to really mean hedge funds). What size are they saying is ‘entry’ level?
Philipp Pieper, Co-Founder, Swarm, cofounder of Swarm Markets, a crypto exchange as well as the Swarm Network, an open source project and DAO: “Binance provides little information on the size of institutional customers they facilitate. In practice institutional customers can range from major asset managers to family offices, boutique or major hedge funds. However, per Binance, the minimum asset under custody requirement is €1,000,000.”
James Ramsden KC, co-founder of the Astraea Group; crypto law expert and litigator involved with the Tulip Bitcoin case (for the defendants): “ In the UK there is a clear distinction between institutional investors and consumer investors – with different compliance obligations depending on their relative sophistication. This seems to be an attempt to position Binance away from the “consumer” market with its recent negative associations in the crypto sector. The problem is that as the relevant Binance entity is regulated in Lithuania the significance of the tag “institutional” is presently unclear.”
Source: https://www.binanceinstitutional.com/faq
KJ: Are there any drawbacks ? (for instance: it’s still a Binance product)
PP, SWARM: “Institutions opting for the Binance self-custody approach are required to use the firm’s own self custody solutions instead of doing due diligence on the best self-custody solution to their individual requirements.”
JR KC: “Self-custody” seems to equate first and foremost to segregation of funds. That is what the “self” in Self Custody appears to mean in practice. As for the “custody” bit, the offer is of a Binance solution, not one the client can dictate. That is not necessarily a bad thing, but it does mean that “institutional investors” would need to carry out careful DD on the custodial services offered by Binance, especially if they are investing client’s money rather than self-generated funds.”
KJ: What does it say about Binance – it shows at least some skill in side-swiping the negative content surrounding the industry but are there fees involved/ seems unclear what is on offer?
JR KC: “It says, Binance is pretty switched on to current market sentiment and growing regulatory oversight. Most regulators would expect segregation of client funds as a first base, so the real step-change is what precisely Binance means by custodial services and how robust they are? The fee structure is pretty vanilla; an annual fee by reference to “assets under custody” and then “network” and “processing” fees for each transaction. What is currently unclear is their level.”
KJ: How does it work?
PP, SWARM: “Institutional users will have fully segregated wallets that protect their assets from comingling with other users. In practice this means institutions will have full control of their assets and will use Binance’s primary functions purely when wanting to sell or buy assets. Onboarding times vary by asset sizes and complexity and Binance says all assets are insured by Lloyd’s of London. Binance Custody is regulated in Lithuania, where the entity is based.”
JR KC: “The concept is no different from software platforms that allow dealing in a variety of financial instruments and derivatives. The difference, to the extent there is one, comes back once again to the custodial services element of the offering. Unlike proprietary trading software the “asset” traded is held on the Binance platform and not by the client. The client’s funds may not be co-mingled with those of other clients, but what is the stability of the custodial platform? Once again the ”institutional investor’s” DD is likely to focus on the insurance backing. What is insured and who is insured? The fact that Binance offers “bespoke insurance coverage….based on various user requirements” as an add on rather begs the question; what is the value of the standard insurance backing?”
KJ: “On investigation of Lithuania crypto regulation it seems well developed but a further search reveals a country that is becoming concerned with the surge of crypto natives arriving on its shores. A ‘warning’ page from the Bank of Lithuania to Binance and other crypto providers in July 2021: “Companies that are registered in Lithuania as virtual currency exchange operators are not supervised as financial service providers. They also have no right to provide any financial services, including investment services. The list of financial institutions authorised to provide investment services is published on the Bank of Lithuania site” https://www.lb.lt/en/sfi-financial-market-participants
Bitcoin.com, 7th February 2023, also say “Since Estonia tightened its crypto regulations, Lithuania has seen a rapid growth in the number of crypto companies starting business in the country. Only eight such entities were established in the whole of 2020 while in 2021, 188 new firms were registered, followed by another 40 in the first months of this year. Over 250 crypto service providers are currently operating in Lithuania, the finance ministry revealed.” https://news.bitcoin.com/lithuanian-government-approves-stricter-crypto-regulations/
KJ: “In conclusion, the move asks more questions than it answers and as Pieper and Ramsden discuss, the exact custody details are still not clear. Following the difficulty in unravelling the FTX bankruptcy in the sector, jumping to jurisdictions like Lithuania, that most in TradFi do not use, does not seem to add the ‘security’ or peace of mind that customer investors would want.”
“However looking into Lithuania, it seems they are very aware of global problems affecting the crypto industry and setting in place measures to protect investors including clarifying what the crypto licences allow.”
www.binanceinstitutional.com
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