- Cryptocurrency insurance fills the gap left by traditional insurance solutions, offering specialised coverage tailored to the unique risks of digital assets, and providing financial protection for individuals, companies, and institutional investors involved in trading, storing, or possessing cryptocurrencies.
- Cryptocurrency insurance encompasses four main types: hot wallet insurance, cold wallet insurance, smart contract insurance, and fraud and scam insurance, each designed to mitigate specific risks associated with trading, storing, or possessing cryptocurrencies and digital assets.
- Cryptocurrency insurance enhances user and business confidence in the cryptocurrency market by providing comprehensive risk management and financial protection, helping to minimise losses, promote market stability and attract more investment.
Cryptocurrency insurance, also known as digital asset insurance or crypto coverage, is emerging as a vital safety net, offering specialised protection tailored to the unique vulnerabilities of digital assets. This insurance fills the gap left by traditional policies, providing financial protection against incidents such as hacking, fraud, and operational errors. By encompassing various types such as hot wallet insurance, cold wallet insurance, smart contract insurance, and fraud and scam insurance, cryptocurrency insurance enhances confidence among users and businesses, promoting market stability and encouraging greater investment in the burgeoning crypto ecosystem.
Also read: Security for cryptocurrency exchanges
Understanding cryptocurrency insurance
The purpose of cryptocurrency insurance, also known as digital asset insurance or crypto coverage, is to reduce the risks involved in trading, storing, or possessing cryptocurrencies and other digital assets.
Individuals, companies and institutional investors are financially protected against losses brought on by a variety of incidents, such as theft, hacking, fraud, operational mistakes and legal actions, with cryptocurrency insurance.
Traditional insurance solutions frequently fall short of providing adequate coverage given the particular risks connected with cryptocurrencies, such as scams and regulatory difficulties. By providing specialised solutions made especially for the ecosystem of digital assets, cryptocurrency insurance fills this gap.
Also read: Hackers never seem to be satisfied with cryptocurrency theft!
4 types of cryptocurrency insurance
1. Hot wallet insurance
Hot wallets of cryptocurrency custodians are particularly easy targets for hackers due to the large amount of cryptocurrency assets they hold. Hacking can cause losses to the custodians themselves and their clients.
In 2014, $460 million worth of cryptocurrency assets were stolen from the then-largest cryptocurrency exchange, Mt. Gox. In August 2021, $100 million was lost from the hot wallet of crypto exchange Liquid Global.
Insurance products that can cover this risk:
Custodian insurance: Insurance for cryptocurrency custodians whose hot wallets are hacked.
Individual insurance: Insurance for custodian customers against their custodians being hacked.
Coincover provides insurance for cryptocurrency escrow, offering embedded insurance to customers of cryptocurrency escrow organisations. Policies are underwritten by members of the Lloyd ‘s-owned PIF (private impact fund) Association, spearheaded by Atrium Underwriters. Coincover’s policies, change dynamically as the price of cryptocurrencies moves.
Breach Insurance is an MGA (managing general agent) that protects cryptocurrency users against hackers attacking custodians. Nexus Mutul protects cryptocurrency custodian clients from hacking and losses from wallet suspensions for withdrawals. YAS Microinsurance provides insurance products to protect NFTs (non-fungible tokens), underwritten by Generali Insurance.
2. Cold wallet insurance
Cold wallets store private keys offline and are therefore less susceptible to hacking. People with “cold wallets” are mainly exposed to the risk of accidental loss of private keys, which are not protected by insurance.
One of the main risks for cold wallets is internal theft: employees with private keys steal assets. Cold wallet insurance is less costly than hot wallet insurance. Insurance for cold wallets falls under the category of species insurance, which is insurance for high-value portable items.
Several large cryptocurrency firms have obtained insurance for cold wallets from the London insurance market, where the assets are insured by Marsh or Aon.
The demand for insurance in the cryptocurrency industry prompted Aon to develop a cold wallet insurance vehicle led by Canopius that offers coverage of up to $625 million. marsh has a cold wallet insurance vehicle led by Arch Insurance and Canopius with coverage of up to $150 million.
Most cold wallet policies are limited to hundreds of millions of dollars in coverage, while many cryptocurrency custodians hold tens of billions of dollars in cryptocurrency assets.
3. Smart contract insurance
Smart contract insurance is an insurance product specifically designed to protect blockchain-based smart contracts, aiming to provide financial protection for users and projects and mitigate the risks associated with smart contract vulnerabilities or malicious exploitation.
There are two main types of smart contract insurance: project insurance and user insurance. Project insurance provides comprehensive insurance for the smart contracts of an entire project or platform, covering all related smart contracts.
User insurance provides separate insurance for users using a specific smart contract and protects users’ funds when they participate in DeFi (decentralised finance) projects or dApps (decentralised applications).
The policy terms include the insurance amount, premium and deductible. The insurance amount is determined based on the amount of money involved in the smart contract and the level of risk, the premium is based on factors such as the complexity of the smart contract, the number of known vulnerabilities and the results of security audits, and the deductible amount refers to the part of the loss amount that the user or the project party has to bear on its own before settling the claim.
To ensure the security of smart contracts, insurers often require an independent third-party security audit to assess code security and vulnerability risk. The project owner is also required to demonstrate that it follows the best security practices for smart contract development and conducts regular code updates and audits.
There are several major smart contract insurance providers in the market today; Nexus Mutual is a decentralised insurance platform where users can purchase tokens (NXMs) to obtain smart contract insurance; Etherisc offers decentralised insurance products covering smart contract risks; and Cover Protocol is a decentralised insurance marketplace providing coverage for DeFi project and smart contracts with coverage.
Also read: DeFi: Why you can’t afford to ignore this sector
4. Fraud and scam insurance
Fraud and scam insurance covers Phishing, which protects users from phishing attacks where sensitive information is obtained through fake websites or emails.
Social engineering attacks, which cover the loss of funds due to social engineering attacks (identity impersonation, masquerading as a trusted person or organisation); Malware and viruses, which protect against the theft of funds or corruption of data due to malware or virus infections; Counterfeit exchanges and wallets, which protects against the loss of funds due to the use of counterfeit cryptocurrency exchanges or wallet services that result in the loss of funds.
Ponzi and Pyramid Schemes, which cover investment losses resulting from participation in a Ponzi or pyramid scheme.
Counterfeit ICOs (initial token offerings) and investment schemes, which cover users against losses resulting from fraudulent initial token offerings ICOs or other investment schemes.
In May 2019, cryptocurrency exchange Binance suffered a large-scale hacking attack in which hackers managed to bypass the exchange’s security and steal more than 7,000 bitcoins from Binance’s hot wallet, which at the time was worth around $40 million, by accessing users’ API (application programming interface) keys, 2FA (two-factor authentication ) codes, and other information, as well as phishing and virus attacks.
Binance responded to this contingency by setting up a “SAFU (secure asset fund for users)” insurance fund, which covered user losses at the time of the incident, and was used by Binance to pay out the full amount of the affected users’ losses, ensuring that users did not suffer financial losses as a result of the hack. This ensures that users do not suffer financial losses as a result of hacking.
Pop quiz
Which of the following options is not a cryptocurrency insurance type?
A. Life insurance
B. Fraud and scam insurance
C. Smart contract insurance
D. Cold wallet insurance
The correct answer is at the bottom of the article.
Why need cryptocurrency insurance?
Cryptocurrency insurance could play a key role in increasing investor confidence and adoption rates, particularly among institutional investors who are more risk-averse.
Hugo Benedetti, assistant professor of finance, University of Miami Business School
Cryptocurrency insurance provides users and businesses with additional financial protection to reduce financial losses due to hacking, fraud, technical failures, or operational errors. Insurance can help victims quickly regain financial stability and avoid major financial losses. In addition, in the event of a major security incident, insurance payouts can help maintain market stability by preventing market panic and mass selling.
Security research firm CipherTrace estimates that the crypto industry lost more than $4 billion worth of crypto assets to theft and fraud in 2019 alone.
One of the largest crypto platforms, CoinSafe, announced this year that it had been “discovered with a massive security breach” that led to hackers stealing 7,000 bitcoins worth more than $40 million.
According to CoinSecure’s disclosure, the hackers used online lures and cyber viruses to access the company’s hot wallets, which contained 2% of the company’s bitcoin holdings.
However, fortunately for Coinsecurity, the Security Asset Fund for Users (SAFU) was created back in 2018 to protect users and their funds in that situation. Since 2018, SAFU has received 10% of all transaction fees from CoinSecure, which is used as a cold storage fund to deal with extreme situations faced by the exchange.
Crypto companies are not the only ones that have been hacked by CoinSafe, and unfortunately, not every one of them is as prescient as it is. In June 2019, a crypto company was hacked by two Israeli brothers, causing it to lose nearly 120,000 bitcoins, worth about $72 million. And Bittrue, a cryptocurrency exchange based in Singapore, suffered losses of about $5 million.
The correct answer is a, life insurance.
