Securing the Future of Digital Finance

As institutions and corporates stock up on digital assets, they must also ensure these are well safeguarded, says Ee Fong Soh, Group Head of Securities & Fiduciary Services at DBS.

Securing the Future of Digital Finance

The future of custody is developing a new look as it plays catch-up with the growing volume and diversity of digital assets in investment and financial markets portfolios. 

From facilitating payments, to creating additional financing tools, to providing new and alternative ways to boost yield – digital assets are becoming mainstream. In turn, they are attracting more capital and allocation from institutional investors, despite initially being launched for the retail investment ecosystem.

“There is a growing number of crypto funds, products and structures, new emerging potential use cases of tokenisation and a rapid evolution of the DeFI (decentralised finance) ecosystem,” said Soh. “Hence, we believe this nascent industry will innovate and evolve further.”

Added to these emerging trends is the fast-paced development of central bank digital currencies, which is giving investors more comfort to participate in digital assets.

Yet confidence has been shaken by the recent turmoil in the cryptocurrency industry, with large cryptocurrency firms freezing withdrawals and multiple other cryptocurrency firms declaring bankruptcy. More broadly, other digital assets including tokenised assets and non-fungible tokens (NFTs) have seen recent declines in prices.

These issues highlight several investment and security questions such as counterparty risks, credit risks and liquidity risks, plus raise fresh concerns over the lack of regulatory oversight, capital requirements, investor protection, anti-money laundering (AML) and know-your-client (KYC) requirements.

“The lack of a unified global approach means there are varying regulatory and security standards, and differing methods of operational integrity, with digital assets,” added Soh. “This makes it increasingly complex for investors to navigate the digital asset landscape.”

DBS’ four-pronged approach to digital security

These challenges mean that despite digital assets gaining popularity, there is an increasing focus on finding trusted and secure solutions to safekeep them. Doing so is essential to support continued growth in digital asset offerings – especially various institutional services vertically combined into a one-stop ecosystem to provide comfort for clients dealing with digital assets.

“At DBS, we believe our fundamental role as a custodian is to be a trusted guardian of our clients’ assets,” explained Soh. “This is the bedrock of the infrastructure that a solution provider should always build on.”

This breaks down into four core elements. Firstly, safekeeping is key, based on state-of-the-art, tamper-proof hardware security infrastructure to manage the private keys with attendant operational risk and control framework. On this point, DBS offers cold wallets in an air-gapped environment, a robust cybersecurity framework and robust business continuity plans.

Secondly, custodians need to ensure investor protection, which can be achieved by clear asset segregation, with no rehypothecation to reduce contagion effect.

Regulatory compliance is the third aspect of effective custody for digital assets. This requires close dialogue with regulators to understand implemented and upcoming guidelines regarding digital assets. This includes stringent adoption of AML and KYC policies as well as of the FATF Travel Rule.

The fourth component is being able to mitigate counterparty risks. In line with this, investors should focus on the operating track record of the institution providing digital asset custody. More specifically, investors should be aware of any aspects of a custodian’s business – such as crypto lending – that might put client assets at risk. If this is the case, the extent of ring-fencing must be clarified.

DBS, for example, holds its clients’ assets solely for custodial purposes. “We are a regulated entity and the first bank in Asia to give our clients a safe and secure environment to transact and safekeep digital assets within one ecosystem,” said Soh.

Due diligence the digital way

With these considerations in mind, investors need to take certain steps to get required assurances with digital assets.

These will come from providers with a proven track record of custody, as well as of the KYC and AML policies of counterparties, cybersecurity and business continuity procedures. Investors should also look for providers that are adaptive and consultative.

“Compared with many other custodians, DBS achieves this in the digital assets space,” said Soh. “Increasingly, with the risk of contagion going on, there is an increasing need to have an independent and segregated custodian service across the crypto space, even if dealing with exchanges and prime services.”

Being digitally different

In the bid to serve the entire digital asset value chain, DBS offers a one-stop shop across deal origination, tokenisation, listing, trading, custody, cash management, fund administration and transfer agency, all within a trusted and regulated, safe and secure environment. 

In short, the anchor is its institutional-grade infrastructure, with a rigorous risk and control framework to prevent, monitor, detect and mitigate fraudulent activities.

“Investors expect the same level of risk management, regulatory compliance and standards as for traditional assets,” said Soh. This is reinforced at DBS given the bank’s long track record of accolades around safety, including being Global Finance’s Asia’s Safest Bank for more than 10 years in a row.

This ultimately comes down to the trust required for an effective custodian service – in the services provided, in the capabilities behind that service, in the legal and compliance framework that serves the need of investors and in the institution itself. DBS is well-placed to deliver on this given its long-standing track record.

First published in Global Finance in September 2022.