EFTA01201053.pdf

NYC Bitcoin Exchange The First NYDFS Regulated Bitcoin Exchange EFTA01201053 Problem Bitcoin is innovative but exchanges have had problems • A brief history of Bitcoin o Bitcoin: open source technology invented in 2009 o Widely hailed as technological breakthrough o Like the early Internet, bumpy patches and security problems o Most prominent: Mt. Gox meltdown and funds loss o Also potential issues around KYC, AML, compliance • Where we are today o Pressing need for a stable, regulated Bitcoin exchange o NYDFS is leading the way with a regulatory framework o Regulated exchange should have provisions for auditing of customer balances, KYC/AML compliance, strong security EFTA01201054 Solution A safe, regulated Bitcoin exchange under NYDFS • Compliance Goals o Compliance: Provide full audit trails of every dollar and BTC that passes through the system, along with identities of large buyers o Liquidity: Ensure liquidity for the Bitcoin ecosystem, and have large enough reserve ratios to prevent Gox-like situation o Trust: Create trust in Bitcoin ecosystem, allow institutional investors to establish positions in digital currencies o Reputation: Build in partnership with established/reputable investors and venture capital firms • Technological Goals o Easy to use front-end comparable to large consumer websites o Top-to-bottom emphasis on information security EFTA01201055 Executive Team Have built and scaled $1B+ in tech/finance companies • Matt Pauker (CEO) (17 o Founder, Voltage Security (>$40m rev) o Author of 15+ cryptography patents; commercialized IBE o BS Computer Science, Stanford • Andrew Farkas (Board of Directors) o CEO of Island Capital o BA Economics, Harvard • Balaji S. Srinivasan (Chairman) o Newest General Partner at Andreessen Horowitz (I, .;_) o Founder/CTO, Counsyl (-5% US births, -$1B+ val) o BS/MS/PhD EE, MS ChemE Stanford • Terence Spies (CTO) o CTO of Voltage Security o Designed SSL server/client for Microsoft Internet Explorer o Chairs ANSI X9F1 bank cryptography committee EFTA01201056 Technology What technological considerations are involved? EFTA01201057 Technical Challenges Building a Bitcoin exchange is computer science • Security o Exchange will be under constant attack by hackers around the globe; both Denial of Service and active threats (e.g., APTs) o Bitcoin relies on advanced cryptography; getting it wrong can result in loss of funds (see Mt. Gox) • Ecosystem integration o Exchange is one of several core Bitcoin infrastructure services o Must provide tight API integration with wallets, merchant processors, miners • Compliance o Technology must be designed to support (often conflicting) compliance goals o Leverage best practices from PCI, FFIEC, NIST EFTA01201058 Technical Challenges Our number one concern technologically is security • Threats o Distributed denial of service (DDoS) o 0-day exploits in open source software o Spear-phishing o Advanced persistent threats (e.g. China) o Source code compromise o Social engineering attacks o Physical compromise of vaulting facility or datacenter • Mitigation o FireEye/Mandiant (malware), Cloudflare (DDoS), Sift Science (fraud), Voltage (encryption), Skipfish/Ratproxy (headless) o Open bids for zero days in any software utilized o Constant penetration testing, automatic/manual (Detectify) o Static and dynamic checking of codebase (Coverity) EFTA01201059 Technical Challenges Security expertise must be baked into every layer Example: Heartbleed: Security issues are subtle Meg wants these 500 letters: HPT. is the. "missed connections' page. trator) cants to set server's ma;. ey to "14835038534". Isabel wants pages ,H ;flakes toIt not tm long-. User Karen wIni : HAT. Lucas rowests the hissed come ctions" page. Eve (administrator) van 0 is to set server's rester key to "148 35038534'. Isabel vents pages about " snakeo but not too long". Veer Karen vents to change account peiss.ord to " EFTA01201060 Technical Architecture Increase security via subsystem isolation, cold storage Accounting User Mgmt Exchange Wallet System System System System Web UI API Cold Wallet Customer Enrollment (KYC) Accounts Warm Wallet Transaction Validator Authentication Hot Wallet Funds Transfer Core Engine Bitcoin Network Interface • Services-Oriented Architecture improves security o Discrete, well-defined subsystems reduce risk of spillover attacks • Full auditability for all functions o User activity, funds, trades • Will work closely with NYSDFS on functionality & user interface O Ensure regulatory compliance, proper disclosures, transparency EFTA01201061  Technical Architecture Limit amount of "hot" Bitcoin; most in cold wallet NYBE Inbound Wallet NYBE NYBE Hot <- • • • .> Cold Wallet Wallet NYBE Outbound Wallet • Typical transaction flow: o Seller sends BTC into NYBE Inbound Wallet, then stored in Hot Wallet o After trade, BTC is moved to Outbound Wallet, then Buyer Wallet o Seller & Buyer Wallets reside at 3rd party (Coinbase, Xapo, etc.) • Occasionally: money moved out of Hot Wallet o Maintain minimum required amount of BTC online EFTA01201062 Technical Architecture Security principles for wallets, passwords, pentesting • Bitcoin wallets o Not a consumer wallet provider: only hold customer funds for trading o Three-tiered wallet hierarchy ■ Hot: online, available immediately (-25%) ■ Warm: offline, available within 24 hours (-25%) ■ Cold: offline 8c geo-dispersed, available within 72 hours (-50%) • Industry-standard best practices o Least-privilege architecture o Two-factor user authentication o n-of-m key sharing o Bank-level network & data security design (256-bit encryption, anti-DDoS) • Continuous evaluation o Regular internal security audits o External "red teams" to identify potential vulnerabilities EFTA01201063  Technical Architecture We build the exchange for extensibility beyond BTC • Exchange built to handle more digital currencies over time o Compliance is key in all of this; start with BTC, generalize as we build confidence o Technology: simply requires additional wallet subsystems on top of existing architecture • Items we may trade over time o Altcoins: Bitcoin "clones" (Litecoin, Namecoin) which primarily change some parameters o Appcoins: new proof-of-work systems with new functionality (Namecoin, Ethereum, Mastercoin) o Side-chains: support for side-chains & proof-of-burn o Smart property: can use the blockchain to exchange software licenses, stock certificates, digital keys to houses, etc. o And more: Colored Coins video gives sense of what Bitcoin can enable EFTA01201064 Exchange Economics Two possible models for an exchange • Model I: Pure facilitation of trades o In this model, we bucket all buy/sell orders into (say) .1 BTC buckets o We then match buyers and sellers in the same bucket o Buyers and sellers exchange directly with each other and the exchange takes a commission • Model II: Serve as counterparty o In this model, we are the buyer and seller of BTC traded on the exchange o We maintain BTC and USD reserves that are sufficient to handle large spikes in buy or sell orders o The exchange monetizes through the size of the bid/ask spread o Benefit: greater liquidity for exchange customers. Cost: larger reserve ratios. EFTA01201065 Next Steps We'd like to work with NYDFS on this. EFTA01201066 Next Steps What's the next step from NYDFS's perspective? • Areas we are seeking input o What is the optimal corporate structure for this vehicle in NYDFS's view? o What existing legislation/regulatory framework is NYDFS thinking about using as a basis for this? o How does NYDFS think about annual Bitlicense/exchange fees and the like, if any? o What type of ongoing supervision does NYDFS envision? o These are the sorts of questions we'd like to figure out collaboratively; please tell us how we can help. EFTA01201067