The failure of crypto custodian Prime Trust over the summer laid bare the shortcomings that come with self-custody, but the risks within the industry are “widespread,” said Diogo Monica, the Co-Founder of Anchorage Digital.
In an interview with Decrypt, Monica said that the problem at Prime Trust wasn’t related to the technology they used to custody assets. Instead, he said the problem had more to do with Prime Trust appearing not to know how to use it properly—something that is fatal for a company whose mission revolves entirely around custody.
"It is an integration failure," Monica told Decrypt. " It is a company that did not have the technical ability to do what they're saying that they do."
In a filing submitted to the U.S. Bankruptcy Court in Delaware last month, Prime Trust’s CEO Richard Lai detailed how the company found itself locked out of its own “cold storage” wallets and losing access to millions in deposited assets.
Termed the "Wallet Incident" in the filing, Lai said that Prime Trust continued to store tokens in this wallet despite purchasing a new solution from digital asset security platform Fireblocks. Despite this, Prime Trust continued depositing clients’ assets in the old wallet, at which point those assets became unrecoverable.
The firm only learned of the mistake when an unidentified customer requested a large Ethereum withdrawal that the company could not fulfill. Prime Trust only exacerbated this by losing $6 million in client funds and $2 million from its own treasury by investing in TerraLUNA, just before it collapsed in May 2022.
Monica said it is impossible to separate Prime Trust’s custody problems from its misuse of client funds for bad bets, making its case particularly egregious. At the same time, Monica adds that Prime Trust’s problems speak to a wider problem in the industry related to custody.
For years, Monica said there has been a lack of qualified custodians available, making self-custody the go-to route. He said the industry still hasn’t strayed far from this path despite more custodians emerging.
"I think the majority of the space three years ago led a lot of people in the wrong direction, because they looked around, and they didn't really see a mature set of crypto standards and crypto players," he said.
Regulators have moved to address this partially. In February, the Securities and Exchange Commission proposed a new rule requiring investment advisers to segregate investor assets and obtain assurances from qualified custodians to do the same, including for digital assets.
Monica, whose company Anchorage Digital Bank became the United States’ first federally chartered crypto bank in 2021, said that existing custodian rules from traditional finance can address this because they have a track record of “working for a very large part” in protecting client funds.
For this reason, Monica said that it would be more important for future rules to focus on setting definitions for digital assets to open the door for more custodians to work in this space.
"The reason why we don't apply them is because Congress needs to define what these assets are," said Monica. "Because if these things were clearly securities, there's hundreds of broker dealers and banks working with companies doing this correctly."