FTX’s bankruptcy got us wondering: Can you buy Bitcoin without going through an exchange?
We took a journey into crypto land to find out.
For starters, if you want to buy Bitcoin, you’ll need to find a wiling seller, and you’ll need a digital wallet to store your crypto. While transactions are all recorded on Bitcoin’s blockchain, there is no way to buy it without going through an intermediary or arranging a purchase through a peer-to-peer transaction.
“There is no simple solution to this,” David Yermack, chair of the finance department at New York University’s Stern School of Business, where he teaches a course on cryptocurrencies. “It is very hard to opt out of a third party being involved and it all boils down to how much you trust that third party.”
One way to avoid an exchange is by doing a peer-to-peer transaction–the core idea behind Bitcoin’s invention in 2009. Platforms like LocalBitcoins match buyers and sellers, similar to Craigslist for digital currencies.
For that, however, you would still need a digital wallet to store your crypto. Legions of them are out there, including Bitpay, Trezor, Exodus, and Mycelium.
Many exchanges also offer digital wallets or custody Bitcoin and other tokens through their platforms. But if you don’t own and safeguard the digital keys to the wallet, you run risks that your crypto isn’t entirely secure.
Indeed, there’s a saying in crypto: “not your keys, not your coins.” In the wake of FTX’s failure, that idea makes a strong argument for self-custodying digital assets.
“Once you go for self-custody, you have full responsibility for what happens to those funds and you’re on your own mini-island,” Christian Catalini, founder of the MIT Cryptoeconomics Lab, told me.
The other consideration is “cold” versus “hot” storage. Cold storage is a way of storing coins on an offline server or hardware device, like a USB drive, that isn’t connected to the internet. Hot storage is a digital wallet that’s always accessible online.
Generally, cold storage is more secure from hacks. But it’s the crypto equivalent of stuffing bills under the mattress or keeping a locked safe at home. Nothing is impervious to theft.
Keeping your Bitcoin on a mini-island would also entail safeguarding the wallet keys–a password and, in a worst-case scenario, a recovery phrase consisting of multiple words. Various services are available as backups, including cloud based providers. One could also store the password and recovery phrase on a laptop or mobile device. Or you could use an old fashioned Post-it Note stuck on a laptop.
For me, that would place a lot of trust in myself as the guardian of my crypto life. That’s something I’m not entirely comfortable with. Indeed, for most people it’s still far more convenient to trust an exchange or other intermediary.
“Retail customers may, understandably, prefer the convenience of a centralized exchange compared with self-custody,” said Anand Sithian, counsel at New York-based law firm Crowell & Moring and an expert on digital assets.
Banks, of course, can put limits on your money–such as setting a dollar limit for ATM withdrawals and they can take days to settle checks or other transactions, keeping depositors in limbo. Bank runs during a crisis are also a risk.
But there’s one crucial difference: If a bank fails, insurance from the Federal Deposit Insurance Corporation kicks in at up to $250,000 per depositor, per institution. The unregulated crypto market lacks that safety net, as FTX’s customers unfortunately discovered.
“There’s no such system for crypto,” says Yermack. “The whole system exists to avoid regulation.”
One piece of advice: if you want to buy Bitcoin or other cryptos, stick with one of the larger, U.S.-based exchanges.
The business will be subject to basic U.S. legal protections, and it could face a barrage of liabilities, including class-action lawsuits, in cases of theft or fraud. Also, look for exchanges that hold reserves one-to-one with deposits, including third-party verification of their reserve claims. And make sure that the exchange won’t lend or use your crypto without your express permission.
(COIN), the only exchange that’s publicly listed, could be a good place to start since it’s required to disclose audited financials. Exchanges like Coinbase that have been granted a BitLicense by the New York State Department of Financial Services such as
(SQ) also may offer some protections.
As for me, amid all this crypto-craziness, I’d rather stick with old-fashioned dollars.
Write to Carleton English at firstname.lastname@example.org