Institutional Risk Management for Digital Assets | European Blockchain Convention 9

[Music] 2 1 first of all thank you for joining us it's close to 5:00 p.m. I guess you are a bit dizzy but is a long boring people speaking here and you know what it's going to be even more fun where it's risk management that said in practice I hope you are not too much into to the final digestion phase and we really want to present you a real important topic I keep having people talking to me eeve you know what I've been scammed this time 20,000 the other day literally speaking a guy told me um I was scammed and the person told me I should take money from the bank a credit to buy stuff and go crypto and guess what scam no however you have to repay the debt so the big concept is that thanks to our two participant right right now we will present themselves we have concrete example on how people get protected please enjoy hi I'm Michael Hall I'm the chief investment officer of nickel digital we're a hedge fund based in London we manage three funds uh a Arbitrage fund a multi manager fund and a defi liquid Venture fund which invests in level one blockchains like e salana rollups like optimism and defi protocol tokens like uni link and so on thank you Kevin Hey guys uh Kevin McHugh I'm the group treasurer of zapo Bank uh zapo bank is the largest retail crypto Bank in the world and we also have one of the largest Bitcoin treasuries in the world so we offer uh savings and wallet products in crypto and Fiat uh to our customers and we're all about you know providing uh a way to access your wealth 24/7 uh safe simple secure and flexible uh me personally I've been a banker for 20 years uh JP Morgan Deutsche Bank and bar Sterns uh I've been through lots of Crisis and stresses and uh 2008 uh Etc and what I'm really looking to do is bring that experience you know into my new role in zapo uh and and take the learnings from you know trafi and all the experience there bring that into building you know a safer uh you know ecosystem for uh crypto and digital assets lovely the key point is when you look at the keyword irm in French it's a medical device so basically Michael what how would you define investment risk management okay so I want to look at the title here which is institutional risk management and so well firstly what do we mean by an institution so our funds have a minimum $1 million investment amount amount so that cuts out a lot of retail investors but you can still have retail investors who have more than a million dollars and they're still retail investors so an institution is a company set up specifically to make investments like family offices fun of funds it could be uh Bank uh asset allocators like JP Morgan Investment Management it can be endowments and Pension funds and we have money in our funds from all of these different categories of Institutions so that's what we mean by institutional now what did they look for when they're doing risk management cuz they're putting in more than like a 100 bucks or 1,000 bucks they're putting in at least a million bucks so what do they want to see well the first thing they want to see is they want to see a regulated fund so we're based in London which means we're regulated by the FCA we have us investors which means you're regulated by the NFA and that gives them some level of comfort that we've got a big compliance oversight U over us the second thing they want to see is somebody checking so KPMG is the only big four auditor who audits Cayman crypto funds our funds Bas set and so we've got four years now of audits from uh KPMG and every month a European regulated uh fund administrator checks what we've done in that month and publishes a monthly net net asset value which is like a statement of our balance sheet that shows how much we made or lost so they look for regulation they look for checks they also look for infrastructure and by infrastructure I mean everything from Trading systems to portfolio Management Systems to risk management systems but also what banks you have so for example we had last year we had a couple of Banks two weeks later we had zero Banks now we have three Banks all based in different places to avoid what happened last year the other thing which they don't like is self- custody so when the fund manager custodies the assets themselves so we use regulated custodians like uh Fidelity copper and the technology behind fire blocks which is technically not a custodian apologies to fire blocks but that's what our uh that's what people tell us and those are the things the institutional investors look for so they look for infrastructure they look for regulation they look for checks and when we come on and that's even before we started to talk about risk management so what is risk management well it's two things it's it's return of capital and return on Capital and return on Capital means you're going to get your money back and so that means you're using things like off exchange settlement so you don't have to put your money on an exchange to trade it there so binance has seu copper has clear Loop and so on and the other thing is return on Capital and in the funds we run that are Market neutral they want to see that we manage our risk they want to see that we're making sure that the managers whom we allocate Capital to are Market neutral and they Don't Stray away from that so we have a risk management system that monitors all these external managers who are trading from California through to uh Barcelona through to Singapore and we have 20 managers all around the world none in our office but every 30 seconds we check their positions on the accounts that we control to make sure all the risk is under control so that's kind of a long answer to institutional risk management thank you for a great detail Kevin would you to further Implement your discussion how do you apply it in Hao yeah so I mean a great question you know so I work for a regulated bank right and I've been at the coace of you know risk management for a long time and the question is you know what is risk management or how do banks do risk management it's it's really about discipline and structure um it starts from the top down with governance it's about about embedding you know risk disciplines in every part of the business so that there's an old cliche in banking that everyone is a risk manager but it's about it's a lot of grind right exhaustively going through thinking about every possible risk that the organization the institution could be exposed to risk to Capital risk to liquidity uh Market risks from exposures to currency interest rate risk operational risks payment risks the and it's it's exhaustive to go through and think about all of these things you bring together all the different parts of the organization and you have that discussion you have you know monthly risk committees where it's an open space where people can talk about the risks and speak up identify things that they're concerned about you track it with kpis you can do heat maps how are we progressing against these risks there is a lot of you know block and tackle in in Risk Management that happens behind the scenes and that's really what we need more of you know indigital assets and in crypto as you know Michael has mentioned there's been a Spate of banks going down in crypto last year um you know you can have a great business model and terrible you know you can have a great idea but terrible risk management and vice versa you can you can have great risk management and and not a great idea so there's a lot of block and tackle and grind in building you know those systems but once they're in place everybody in the organization understands how they work and you've got a framework for having those discussions so actually when you say we have so much risk to monitor the way you do it with people time energy money sweat blood and whatever you can imagine I have the impression that the people who do risk management are kind of psychopath be careful maybe they're going to be a rock behind it and we're going to have an accident and actually that's what happened with FTX so in practice do you think with that this perfect storm will happen again and what did you do in your business to protect yourself and especially your customers so absolutely FDX will happen again or FDX like things will happen again we've seen fraud in trafy so look at madeof you've had in crypto exchanges coin Flex has gone bust uh the and there have been several others so absolutely we will have exchanges go bust what can you do about that well you can not put your money on the exchange you can use off exchange settlement to trade on the exchange without having your money RI there and every 24 hours you settle your p&l to The Exchange other things you can do is you can buy some insurance so our defi fund bought some insurance from Nexus Mutual now unfortunately Nexus Mutual doesn't offer that kind of insurance anymore probably because we bought it at 2.6% so go figure buying Insurance on FDX annualized 2.6% that was the deal of the century so we things like FTX will happen again but it's up to funds to protect themselves investors to be informed and look for Solutions such should if there is for they're protected amazing so the quick question is well well you have concept you have people making as I told you a Psychopaths maybe there's something impossible is going to happen FDX the key question is that today do you think there is a proper way for a bank to manage both so-called access keys and who is doing what this du diligence how do you do it in your bank well you know Key Management is vital for for uh any organization that's operating in the um in the in the ased space you know the gold standard of MPC multi-party computation um you know is is and those standards are even improving right there's new uh MPC CPM that's going to offer faster throughput um so you know you yeah I mean that that's what I would say to that because if you're not into geeky stuff which I perfectly understand there are a company called fire blocks which protect you at least technically on Plenty of aspect please have a look they're just there what really is interesting for us is how expensive those protection tools are opposed to the risk undertaken in your company so those tools I don't want to give away too much commercial information about how much they charge but depending on how much money you have with them they charge from 50 basis points to around 10 basis points so for a basis point is a percent of a percent so when you put 10,000 on the bank it will cost you one sorry so just to be a basis point half a percent is uh 50 basis points so so everyone's clear on what a basis point is but it's worth it because when you do that you can guarantee what your uh that your assets are protected by a professional custodian does that answer your question it does so my key question is that all around the table here here they want to know why should I go into your bank what is your USB unique selling point so look you know we I think one of the things that is not as well known is that we are custodians of one of the largest Bitcoin treasury in the world we have over 10 years of experience you know we have grown from being a Bitcoin wallet into being an e-money provider and now we're a fully regulated you know crypto Bank um you know we have great products enabling you to access your money to transact in stablecoin um and you know even the Wall Street Journal called us the fort knock of Bitcoin uh you know at one point at one point we had over 800,000 Bitcoin in custody um so we have a deep experience of you know from from Key Management wallet management and now we're adding that real institutional regulated uh layer and and and really we want people to be able to have a safe space to store their crypto and their Fiat but also Al to transact because you know there's no use having your digital assets under the bed you know you you also want to be able to interact receive payments stable coins if you're a digital Nomad those are all the reasons that having you know one you know all this capability in product in one app in your fingertips is so much better than keeping your your money you know on on a cold wallet um and and I think that is really what we are bringing because that experience that that we've got over those 10 years of being uh you know a wallet and on our Evolution we've learned and and listened to our customers and we've and this is what we've built a product for them well I guess my wonderful euro is below my mark my mattress will not stay there for so long please trust people at ler does not exactly comply with this approach we have different possibilities depends what is your USP in your bank so we're not a bank we're a hedge fund same but but uh are USP so we're not trying to get crypto whales who own lots of Bitcoin to invest in our fund we're trying to get people who would never touch crypto who think it's risky think it's dodgy think it's full of cowboys and Crooks we're trying to get those people to invest in strategies IND digital assets that will make them money we had when we started our Arbitrage fund back in 2019 a lot of our investors said to us this crypto stuff is a scam but we can see how you can make money out of it so here's some money so you can go and make money from arbitraging these crypto exchanges and stuff so our what we sell to our investors our institutional investors is that we can make the money in digital assets and protect that money and that's basically what we've been able to do in the four years we've been operating that's simply amazing please tell me right now we're in the era of AI generative one if possible do you think that in your business it's useful to apply it and offer services mixing crypto and AI well I think that you know because with blockchainbased you know uh because we are operating on public blockchains I think AI has a much you know is going to be incredibly useful in terms of identifying uh you know wallets you know addresses from that have been hacked tracing transactions you can see how AI will really help uh you know it really kind of works with public blockchains to to you know identify places where you don't want to be sending know from from from our perspective we want to protect our customers we have a couple of different angles we want to protect ourselves from onboarding you know customers who are going to be you know Bad actors but also we want to protect our customers and those kind of tools can really help us you know make sure that you know a customer doesn't send their coins to somewhere that that that they really don't want to send their coins to in the case of AI usually when you have to put some decision making process it leverage issue legally speaking who made the decision especially when I was working on a hedge fund they say well it's a algorithm who did it so we got a problem when there the problem who's to blame do you have such issues expected in your business as a hedge fund yeah so we use AI itself AI you can break up into lots of it's many different areas it's not just the large language models that have recently got a lot of press like chat gbt and so on so we've been using neural networks and the managers to whom we allocate money we know are also using neural networks to an analyze markets look for patterns look for trading opportunities but you know these black boxes a lot of the people who are running the neural networks don't actually they know the coefficients of each node in the neural network but they don't necessarily know why that coefficient is the level it's at they don't understand why the brain thinks what it does because there are just too many nodes there were just too many things to understand so that's why you need to put a lot of risk management on this and it's really simple maybe the model was trained in a different environment and it only makes money in certain environments and so if the model stops working you have to decrease its capital very very quickly and that's where risk management just really simple nothing fancy draw Downs when the model starts you can notice performance start to track come off track with high frequency models you just start reducing its capital so that it's it's that thank you very much the key aspect we want you to understand that your money is safe by Sao bank or eventually if you have even more money possibly you can lend it to the edge fund thank you for joining today um and please feel free to contact our great speakers if you have key questions next time see you thank [Applause] [Music] you