The crypto movement, spearheaded by the launch of Bitcoin around 10 years ago, was based on the need for individuals to have complete control over their wealth and assets, with the freedom to transfer and exchange them at will, without the need for a central body’s approval.

This is now largely possible with Bitcoin and other leading cryptocurrencies, which do not require users to have bank accounts, and can be held/stored privately on personal computers or mobile devices.

However, this flexibility and freedom have a few downsides, one of them being the fact that without any intermediary body, the individual or entity holding crypto funds becomes solely responsible for their security. A single lapse, be it a virus/keylogger, a man-in-the-middle attack or any other data vulnerability/hack, can result in private keys (required to access crypto funds) being stolen and funds siphoned off.

Similarly, even if you end up losing your private key due to any reason, your funds will become inaccessible and virtually lost forever. Now, this might be an acceptable risk for small investors, traders and crypto owners (with a few thousand dollars worth of cryptocurrencies), but is a major challenge and liability for large entities, including crypto companies and notably, exchanges and brokers like Coinbase, Kraken and so on.

This is where crypto insurance comes in, and while some of the top exchanges, like Gemini and Coinbase, have managed to acquire coverage, the sector is just beginning to develop.

BitBull Capital CEO Joe DiPasquale speaking about crypto insurance and more, at the 2019 Cyber Risk Insights Conference – San Francisco

Crypto Insurance is a growing necessity

In traditional finance, insurance coverage is critical for any business, large or small, and all institutional solutions need to have insurance in order to reduce potentially crippling liabilities and protect investors/users.

However, when it comes to the crypto space, things are not as clear cut. The recent QuadrigaCX scandal is one such example, where hundreds of millions of dollars worth of users crypto funds were lost when the exchange’s founder was declared dead. It was reported that only he had access to the private keys for wallets holding user funds, and with his death, the funds have become inaccessible.

While investigations into the exchange and its holdings are ongoing, the issue highlights a very real concern when it comes to the safety and security of crypto holdings. Without any insurance coverage, the users who stand to lose millions of dollars have no recourse other than legal action and hoping that authorities can recover some of the funds.

The same happened during the Mt.Gox scandal, which saw one of the biggest Bitcoin exchanges at the time shut down after having lost a significant chunk of user funds to hackers. In these cases and others, users lost the most.

Insurance coverage for these exchanges would have not only protected users but also prompted the exchanges to follow better security protocols.

Now, with the crypto market growing in size and major exchanges running full-fledged businesses, crypto insurance coverage has become a necessity.

Challenges to Crypto Insurance Coverage

Insurance companies and underwriters are only willing to cover exchanges and funds which follow state-of-the-art security protocols, are easy to track, locate and recover, and simple when it comes to proving the nature and cause for the loss.

By nature, cryptocurrencies pose several challenges to these requirements. They are not easily trackable or recoverable at all, and companies filing claims will have a very tough time proving that the security lapse was not a result of something as small as leaving a private key printed on a piece of paper in the office printer.

Secondly, insurance companies are also held back by the lack of accessible and reputable custody solutions. While there are developments in this sector, such as Fidelity working on an institutional grade custody solution, it is natural for service providers to be cautious.

Finally, there is a need for education, to ensure that insurance providers and underwriters have a reasonable understanding of the blockchain and crypto space, and are able to fully realize the risks involved. Once these stakeholders are comfortable with the new technology, they are likely to be more open towards providing services.

Current Players in Crypto Insurance and Key Considerations

Several service providers have recognized the demand for crypto insurance and are providing limited coverage solutions. These notably include Lloyd’s of London, American Insurance Group (AIG) and Aon among others.

Leading companies such as Coinbase, Gemini Exchange and more recently BitGo have varying degrees of insurance coverage, but not as comprehensive as these companies would have liked.

Two important considerations with crypto insurance are that, firstly, coverage cannot be chosen on a per-user basis – this means companies cannot choose to cover certain individuals out of a pool and not others – this is because of the nature of crypto funds. They are not particularly registered against a certain account and are held collectively. If a crypto wallet is breached, the attacker can transfer all of the crypto held, regardless of who it belongs to.

Secondly, users of crypto exchanges and services which are covered, need to understand the extent of coverage. Most of these services are covered in terms of their own, platform-level breaches or lapses, and not user-end losses. This means, if you end up losing your account password, or are hacked via a phishing attempt, for instance, the company is, most likely, not going to cover your loss.

Crypto Insurance is a Critical Step Towards Institutional Investors

When it comes to institutional investors, large amounts of capital can be diverted towards cryptocurrencies, but the main hurdle is lack of security and reliability. Institutional investors require institutional grade services, including comprehensive insurance, which covers their capital in the case of any breach or loss of funds.

Bitcoin futures offered by regulated entities like CBOE and CME are an example of this, where institutional investors have shown interest. Similarly, Bakkt, which aims to launch physically settled Bitcoin futures is also going to encourage institutional investors, but large-scale adoption will require insurance solutions for regulated exchanges.

Given how the demand for crypto insurance outweighs the supply, we can expect new developments in the near future, encouraging institutional investors and further maturing the crypto space – but education, regulatory developments, and security improvements will be key.

Disclosure:

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