Delivering Crypto Trading to Retail Investors: The Technology Behind It

11 min read

This September, we had a discussion where the main goal was to shed light on successfully launching crypto offering to retail investors. With the insights of our experts: Jon Light (Devexperts), John Willock (dxFeed), and Henry Price (GCEX), moderated by Nikolay Isayev, FinanceFeeds Chief Editor, we gave brokers a detailed overview of the novel asset class.

The outcomes of our discussion with the experts are summed up below the video.

Moderator (Nikolay): What’s the difference between crypto-assets and fiat assets from a technology perspective?

Jon Light: The original crypto exchange didn’t start out as a crypto exchange at all. It was adapted for crypto. The initial crypto trading venues were not built to run by big financial institutions with expertise in the area. The passionate techies created these exchanges, but they didn’t have the experience, the technology, and the financing to build robust platforms for financial markets. Some things like execution methods, standards, and APIs had been reinvented and, in some cases, completely skipped. The main point is that there’s the need to hedge. An institutional firm is not likely to go into an asset without being able to hedge it, and they have differences in regulations and KYC procedures. Crypto liquidity, for example, is a long way off from what we’re used to in FX. It’s not easy to trade a large amount of crypto without causing underlying changes in the price.

Moderator: What should brokers consider when planning a crypto exchange rollout?

Jon Light: Let’s take protocols as an example. Ideally, it should be the FIX protocol or something similar, but most of the crypto exchanges started out with just a UI, and they added an API later on. A lot of these are their own protocols built from scratch. They are all different from each other and lots have stability and scaling issues. The next point to consider is security. It should cover a vast area. Consider organizing multi-factor authentication, secure connections to custodians for crypto withdrawals and deposits.

One major difference with crypto compared to FX is how brokers want to charge financing for the open CFD positions. In FX, it was done once a day with a swap, but with crypto, it doesn’t have to work this way. Consider adding the ability to charge financing at more regular intervals for holding a position in crypto and using a simpler percentage model. This is something that brokers might have trouble with if they’re adding a product into an existing FX platform.

Moderator: Crypto is a fascinating asset class because it could also be offered in different ways in terms of the settlement. So how do brokers should handle the settlement when they offer crypto trading to their clients?

Henry Price: There are cash settled instruments, such as the perpetual swap which gives significant leverage to clients, it is generally a retail instrument, with margining / financing every six hours or eight. Most other brokers use, a CFD, which is a MiFID instrument, with its own pros and cons. There’s also a spot product and other derivatives where you settle in the underlying.

Clients may want to trade a MiFID instrument because there’s a certain assurance there, but they may need a license or other qualifications to trade the instrument, however crypto spot is generally outside the regulatory perimeter. However, as an example, if you want to deal in digital assets as a spot product, you must apply for a special permission in the UK.

Because CFD products are a continuation of the product offering in FX, many brokers choose to enter into CFD products first. If you go the spot approach, you’ll need a compliance officer who understands on-chain analytics, or KYT, which stands for “know your transaction,” checks are not just “know your customer.”

There is also the technical aspect of handling the spot product, which is a custodian, and because markets are not fully regulated, there are many choices of custodians in various jurisdictions, but you must understand that each blockchain may have different support requirements. So, if your client wants access to something like Dogecoin, it will be far easier to take a CFD version rather than trying to obtain a supporting custodian. So, to summarize, there is a technical, regulatory, and compliance knowledge hurdle. And a CFD can handle a lot of the “gateway” activity. The only other issue is that there may be asset class-specific events that affect the financing or other aspects. Some jurisdictions have outlawed CFD products for retail, there are many options, but there is a lot to consider.

Moderator: How are companies able to manage risks and hedge when offering cryptos?

Henry Price: If you have access to the underlying asset, and you can trade that, then you can actively hedge. Perhaps the spot markets won’t be afforded leverage, but you can definitely hedge your flow. A lot of the CFD products are leveraged, but you’ve got to understand that one to five would be quite good leverage for a volatile product, and one to ten would be very aggressive. And then if you go to the perpetual swaps, in the retail market is much higher, but these wouldn’t be institutional-grade products, so keep track of the volatility. You could have margin requirements changed based on volatility, sticking to lower leverage and institutional products should make it more difficult to over-utilize your margin requirements in these markets as much.

Moderator: Do market disruptions such as halving affect crypto offerings, and how do brokers deal with them?

Henry Price: Bitcoin halving happens once every four years, but it’s based on how many blocks have been mined. So, that’s basically a reward for bitcoin miners. Although halving is not really a disruption. People might get excited because it’s an interesting event, but that event is fully embedded in the blockchain protocol itself. I call such events protocol-based returns. They are fully planned, and you know exactly when they’re going to occur within reason, and that’s usually all good and proper.

There are two big events that we are more concerned about are hard forks and airdrops. A hard fork is an event where the blockchain was upgraded by the architects, like Ethereum core or Bitcoin core. And this type of upgrade causes the chain to become incompatible with the previous version of the protocol, so you can’t keep going. So, basically, there’s a huge change in the codebase and there are two versions of reality now. Most crypto asset vendors have a hard fork policy that explains whether you’ll be entitled to both assets on each side of the fork. Because that’s all you can do. But if there’s an event, for example, the Ethereum’s London hard fork, that’s part of the Ethereum improvement program (EIPs), here vast majority of miners are in agreement that this is a good thing for the network. At this point, you may experience uncertainty in the settlement since you do not know which chain you are on, so we will not settle any cryptos on-chain for about six to twelve hours. Basically, if the chain’s in flux, you don’t want to settle.

The other main event that’s very crypto-specific is airdrops, which is essentially,  tokens added to your wallet for free. For example, there’s a big one XRP in Ripple, where everyone who had an allocation of XRP had Spark allocation added too, and it’s in proportion to what you hold. Now, what it did for financing rates is quite interesting because there is an obvious convenience to holding the underlying, so the rates went crazy, so if you could borrow XRP and hold it in the spot, you would then get this reward. There’s a weird property of holding the underlying, which causes interest rates to spike, so if you had a CFD position overnight, that would be quite problematic. Try to stay in tune with the news that might affect your services, but custodians and LPs are getting far better at informing the clients of such events.

Moderator: For some of these events, such as airdrops, halvings, and others, what types of data are essential for companies?

John Willock: As far as the things like halving and other protocol-level events are hard-coded predetermined in advance, you can prepare for them, you can put them in your calendar, and you can set a clock. Although the systematic information is straightforward to understand, it’s not going to be offered from a source in a standardized format. For the rest of the corporate action type events, the information about the expectations of these events generally is not published in a traditionally interpretable way. That could be published, for example, to an internet forum, to another community group on a web platform, or a Twitter feed. Understanding when that information is available and interpreting it for brokers or other market participants who need to know it requires additional effort. And for some other events like airdrops and sometimes a hard fork, it may require some other qualification of the utility or value of that information because you may have to conduct on-chain retrieval of the asset by exposing your keys to a new piece of software, which may have to put your keys at risk. So that kind of additional interpretation information, aside from just the factual restatement and distribution of that information, adds another whole layer of complexity.

Moderator: Once an offering is launched, what do brokers need to know about accepting and storing crypto assets from customers?

Jon Light: The risks associated with storing crypto in wallets or on hard drives are well known.The recent increase in offerings around insured and secured crypto, custody has helped institutional firms get more comfortable in this area. With crypto custodians, there is a wide range of different options ranging from basic online wallets to institutional custodians that offer a secured custody world where they hold your crypto and insure it. A lot of them are regulated, and they use methods such as cold storage and HSMs [Hardware Security Modules], where the crypto is stored offline away from being hacked. The service is fee-based, but the measures they take have allowed them to get insurance policies from some of the largest underwriters. The rise of these institutional-grade crypto custodians is probably the number one reason why we’ve seen more and more interest from institutions getting into the crypto space and being comfortable with that. Certainly, with both crypto spot and crypto CFDs, a broker’s going to need to take a look at the wallet and custodian options out there at some point.

For crypto spot brokers, it’s obvious, that the cryptos that their clients are buying and selling need to be held somewhere. Depending on the regulation, this may need to be with an insured custodian, and even if the regulation doesn’t dictate it, it’s still a good idea. These accounts need to be multi-currency; they need to support all of the currencies on offer. Also, they need to be linked to the wallets. Although there is one interesting thing that we’ve seen: even though brokers offer crypto CFDs, they initially think that their clients would fund their accounts with fiat currencies. Due to client demand, they will soon be able to offer crypto deposits and withdrawals. For this, the trading platform will need to interact directly with the wallet or custodian for generating addresses for deposits and triggering withdrawals. There are lots of options in this space and lots of differences between the custodian offerings.

Moderator: How can regulatory challenges in prominent jurisdictions be overcome?

Henry Price: In Europe and the UK especially, there is an anti-money laundering regime which is the digital asset temporary register. It’s focused on the inflows and how we prevent money laundering in that space. America and Singapore, for example, focus on a travel rule approach. The travel rule in the traditional sense is when funds are moved from financial institutions to financial institutions. When there is a transfer between virtual asset service providers (VASPs), the money can be traced through different institutions. When you put crypto into an omnibus account, it mixes everything. So the best mixer is to move everything to the omnibus wallet. As long as you are prepared to do things properly and look over the compliance issues, those are two main issues: money laundering and travel rule. Essentially, the best defense would be assigning identities to transactions as they go in. Yet again, this emerging new asset class and different jurisdictions have different approaches. Bear in mind that you may have to hire a compliance officer to deal with these assets when they come in, but it’s all surmountable, and there are more and more specialists, tools, and there’s also more specialist advice and brokers, so it’s improving for people. 


After the discussion, our experts answered the questions from the audience: from tips on choosing a good liquidity provider and ways to settle, to blogs, to cash and e-Voucher payment methods, to data analytics and instrument characteristics. Trading platform being the heart of any brokerage was also a hot topic – if you’d like to learn which trading platforms are best for brokers offering crypto trading, watch the full version of this discussion in the top of the article.