Loss of $75 million in Ether highlights infancy of crypto infrastructure

The news that cryptocurrency security company Fireblocks was being sued for losing $75 million worth of Ether not only sent shockwaves through the cryptosphere, but also raised questions regarding the overarching significance of the incident for the sector. Crypto startup StakeHound is claiming that negligence by a Fireblocks employee resulted in the loss of access to a digital wallet containing 38,178 of the plaintiff's ETH coins. Fellow Israeli company Fireblocks claimed on the other hand that the keys to StakeHound's wallet were generated by them and stored outside the Fireblocks platform and that StakeHound did not store the backup with a third-party service provider per Fireblocks guidelines.

Without getting into who's at fault for what happened, it is clear this case plays into the hands of many of the critics of the crypto sector, although crypto angel investor Maya Zehavi, doesn't believe the lawsuit exposes any underlying issue with crypto, not the tech or MPC (which is the foundational technology Fireblocks uses). "It does however highlight how early it is in crypto market infrastructure and the clear uncharted territory of crypto intermediaries," Zehavi explained to CTech. "Essentially the incident is part of a side-project where StakeHound, a staking as a service company which pools investors money to stake on Proof-of-Stake (POS) nodes, hired Fireblocks to generate "BLS keys". BLS keys are specific to Eth 2 and POS chains, where there are two sets of keys - validator keys and withdrawals keys. It seems StakeHound elected to use 3-4 BLS key shares and it's not clear who was responsible for storing them or their backup."

Zehavi added that this is a specific case in which the custody, backup and boundaries were not well defined by either party which resulted in a loss of keys. "The most important takeaway is that even cutting edge crypto solutions need to have an old school insurance policy for the edge cases where liability isn't clear and client keys may be lost. It's not a sexy solution, but there's no need to reinvent the wheel and I'm confident the Fireblocks team is well aware of this," said Zehavi.

Zehavi believes this incident raises a red flag emphasizing how crucial crypto regulations are, specifically for defining the liability of market intermediaries and the need for customer protection via old-school means like insurance.

"Regulators have never been in the game of defining policies by technology, however crypto and privacy-enabling technologies (PETT) might force them to draw clear boundaries," she said. "Crypto regulations might require interdisciplinary groups, beyond just security authorities such as the SEC, but also privacy protection agencies. We've already seen initiatives for cross-agency working groups for crypto, but keep in mind Israel is behind in that field. We don't even have a privacy agency or updated privacy laws."

While the lawsuit clearly doesn't look good for Fireblocks, Zehavi noted that the Fireblocks communication team deserves praise for quickly coming out with a post to clarify the situation and that the hit to the company might not be that bad considering the lawsuit doesn't involve their key product. "This goes a long way in assuaging any concerns from potential clients such as BNY Mellon. However, keep in mind that staking via MPC is probably on their roadmap. Fireblocks has a strong team and I think in a year they'll probably have a tested solution and look at this lawsuit through the back mirror.”

While the case involves two Israel-based companies, Zehavi said that there isn't a vibrant crypto scene in Israel, explaining that the 2017 ICO bubble "did a lot of damage and left a taint on the industry."

However, she did add that the Israeli crypto companies that are leading the industry are some of the most cutting-edge and use deep tech to solve “what we call the hard problems."

"The two sectors in crypto where Israelis have excelled so far are privacy tech (PETT): companies like Starkware using new zero-knowledge tools are building out scaling solutions for Ethereum using Starks and are one of the most innovative in all of crypto, and several companies specialize in Multi-Party Computation for custody solutions (Fireblocks, Curv) and privacy enabled smart-contracts (Secret)."

"As crypto evolves and more institutions will need enterprise level solutions, the overlap with cyber will grow and hopefully Israeli startups will realize the potential in this market,” said Zehavi. “But as of today Israel is in no way leading crypto in the way we're known for cyber across the globe. Some areas in crypto, like DeFI almost completely lack any Israeli teams. Hopefully, after this last bull cycle that will change and more entrepreneurs get the crypto bug.”