Today at the SIBOS banking event, a member of the audience asked about an SEC guidance note (SAB 121) that will curtail banks from providing digital asset custody services at scale. That’s because it requires digital asset custodians to add the custodied assets to their balance sheet.
As context, regulated custodians usually hold any assets, digital or otherwise, entirely segregated from their own funds, so-called bankruptcy remote. Custodied assets generally don’t go on a balance sheet because they don’t belong to the custodian. In its March letter, the SEC says that any crypto-assets with a private key under custody carry such significant risks that they must go on the balance sheet.
This would close the door to incumbent banks custodying cryptocurrency, and also the far larger wave of securities and real-world assets that are expected to be tokenized. That’s because Basel III rules require banks to set aside capital based on their balance sheet. Proposed Basel rules treat cryptocurrencies as the highest risk. Securities and banking associations SIFMA and the ABA have written to the SEC on the custody topic.
State Street, BNY Mellon agree re digital asset custody
“There are two types of organizations in the market providing (custody). So you’ve got some of the newer FinTech types, which are not G-SIB (global systemically important banks) or banks that are doing that. The impact on them is de minimus. They just put it on their balance sheet,” said Nadine Chakar, Head of State Street Digital.
While the rule doesn’t impact FinTechs, the impact on banks is immense. “So for every dollar of crypto we custody, we’ve got to reserve a dollar of capital on a balance sheet. So I’ll leave it up to you guys to do the math.”
Another panelist, Clearstream, is moving many conventional securities into a digital central securities depository. While Clearstream is based in Germany, it indicates that in the not-too-distant future, a large volume of securities could become digital if other countries provide regulatory clarity as Germany has.
Together, the three banks represented on the panel custody almost $100 trillion in conventional assets. BNY Mellon looks after $43 trillion, State Street $38.2 trillion and Northern Trust $13.7 trillion.
With those figures in mind, State Street’s Chakar added, “We all will put up a bit of capital to just get going, very similar to what Bank of New York (BNY) has done. But you can’t scale it up. Think about this—$ 40 trillion in assets. If we put that on our balance sheet, I mean… it’s insane.”
Caroline Butler, BNY Mellon‘s CEO of Custody responded immediately, “I 100% agree. I think it is a real constraint to scale.”
She believes that clients will get superior investor protection from experienced custodians bringing a solution to market. Which might be better at safeguarding your assets: a FinTech or a company that protects $40 trillion-plus of assets?
BNY Mellon launched its digital asset custody solution this week. Butler added, “We need to have a fair playing field.”
“We need to have the right level of regulation. We need to have the right consistency to protect the investors, protect the clients. But again, for banks like us to be able to scale our offering, under those current constraints will become a real limitation.”
Stephen Prosperi, the Director of Business Innovation & Fintech Strategy at the DTCC discussed the need for regulatory clarity to take projects forward at a more general level. He commented on the SEC letter, “SAB 121 came out of nowhere and really impacted things. So, how many more of those are coming down the pike? Hopefully, they’ll be positive, but time will tell.”
Update: The headline was updated removing BNY Mellon.