Coinbase’s custody of 8 out of 11 Bitcoin ETF vaults sparks concentration fears

With Coinbase holding custody of 8 out of the 11 spot Bitcoin exchange-traded funds (ETFs), the company finds itself at the center of a growing controversy. This high level of concentration under a single custodian could lead to trouble, warned David Schwed, CEO of blockchain cybersecurity company Halborn, in a recent interview with Bloomberg.

“By design, our financial-market infrastructure is segregated into different roles,” stated Schwed. “When you have one entity that’s responsible for the entire life-cycle of the trade, I think that causes concerns.”

As a custodian, Coinbase is responsible for holding and securing the Bitcoin that these ETFs invest in. In return, it benefits from custodian fees and related services.

Schwed noted in a separate post that a huge inflow into Coinbase’s digital vault makes it an attractive target for cybercriminals. He raised concerns about the preparedness of crypto custodians like Coinbase, which may lack the extensive resources and layered supervision models employed by major banks to counter such threats.

Sharing a similar view as Schwed, Dave Abner, a former executive at WisdomTree and Gemini Crypto, expressed concern about the risk of too many firms relying on Coinbase as a custodian for their crypto holdings. He suggested that Coinbase’s custodial power might pose unnecessary risks for investors.

“Even if that turns out not to be a problem for the SEC, to me it seems like an unnecessary risk for investors and I’m surprised that a multi-custodian setup isn’t required of issuers, just to protect against unforeseen problems,” said Abner.

Other members of the crypto community previously questioned Coinbase’s custodianship.

This is a horrendous level of centralization within the proposed Bitcoin ETFs. It seems Fidelity @DigitalAssets is the only one doing it right. pic.twitter.com/YhpC0DHl62

— Jameson Lopp (@lopp) December 3, 2023

However, controversies have intensified following SEC Chair Gary Gensler’s speech after the recent spot Bitcoin ETF approval. Gensler stressed that the approval doesn’t endorse crypto trading intermediaries, many of which he believes largely fall short of complying with federal securities laws and often present conflicts of interest.

In response to concerns about potential conflicts of interest, Coinbase’s chief financial officer, Alesia Haas, argued that traditional financial models might not fully apply to the crypto sector. Further reinforcing this stance, a Coinbase spokesperson noted that the company’s custody business is not a key focus in its ongoing lawsuit with the SEC.

While Haas acknowledged the growing trend among ETF issuers to diversify their custodians, she expects Coinbase to maintain a substantial share of the custodial market.