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DeFi is the Wild West – Can Crypto Insurance Tame the Space?

4 mins
Updated by Leila Stein
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In Brief

  • DeFi has been plagued by a series of hacks that are proving increasingly costly.
  • Some companies are looking to crypto-insurance as a way to protect users.
  • These mechanisms may help create a more secure environment to encourage user growth.
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In the middle of August, the crypto community experienced a record-breaker. Though not quite the type most are used to seeing.

On August 10, interoperability provider Poly Network was severely compromised, having more than $600 million of its funds temporarily stolen. This effectively resurfaced well-founded safety concerns about the current state of DeFi and the safety of user assets.

The hack was by far the largest the DeFi sector has seen to date. It quickly put the familiar conversation of value-at-risk in the space to the fore again.

Luckily, the stolen funds were quickly given back. The story culminated with a happy ending (as well as a Chief Security Officer job offering). 

This hack comes after continuous attacks on the DeFi sector. Also In August, there was another major crypto hack of the Japanese exchange Liquid Global. It saw crypto worth roughly $90 million pilfered, resulting in the loss of bitcoin, ethereum, ripple, tron, and other digital assets.

As DeFi continues to mature, it is essential to break down the existing barriers to entry. These include personal and asset security measures, enabling veterans and newcomers alike to operate in this space.

At the same time, as institutions continue to dip their toes in the sometimes murky DeFi waters and increase their exposure to digital assets, the need for risk assessment and management tools is at an all-time high.

All the while, supply-side issues are still lingering (not enough insurance providers in the market). End-users are plagued by the lack of customizable and streamlined coverage options.

Crypto insurance steps in

The Poly Network and Liquid incidents made international headlines due to the existential ramifications they pose to the future of DeFi. They also expose the massive amount of funds at risk.

However, hacks are anything but uncommon. Smaller, often “personal” hacks, rarely make the front pages. The lesson is a rather obvious one. There will be hacks in DeFi, and that risk will not go away any time soon.

Both current and future DeFi users need an adequate list of available options to be able to manage such risk. Otherwise, mass adoption will remain but a dream.

The demand for these types of services is ramping up. Thus, there is an increasing number of insurance providers in DeFi offering unique value propositions on how to approach DeFi risk.

A good portion of these service providers share the same view that hacks will not go away. If anything they will metastasize and proliferate. That the first step to solving this dilemma is through accepting that it’s an unavoidable part of the modern digital landscape.

Acceptance, however, doesn’t mean sitting idle. In this case, it means hedging against risks. In more simple terms – getting covered. Who doesn’t want to sleep soundly at night knowing their digital assets protected?

There are a number of blockchain companies that understand this concept very well. They are working towards providing crypto-insurance. They are ensuring these satisfy both consumer and institutional appetite for a customizable and reliable risk management solution for DeFi assets.

Different forms of crypto insurance

Given the growing popularity – and all-time high of $92 billion total vlaue locked (TVL) of DeFi – crypto-insurance makes sense from a logical standpoint.

DeFi users need better coverage against smart contract failure and exchange hacks. DAO hacks and Parity multi-sig wallet issues are some examples of more prominent mishaps that could provide more coverage to users, had they explored crypto insurance.

Critical areas that require cover include yield token cover, custody cover, and protocol cover. Yield token cover can protect DeFi consumers against yield-bearing token de-pegging, whereas protocol cover can protect against a hack on a specific protocol.

Lastly, custody cover offers protection against halted withdrawals and haircuts on funds stored on centralized exchanges.

To onboard non-native crypto users, it is also incumbent that there are products that are familiar to traditional market users. These include pay-as-you-go business models that provide product users with state-of-the-art security and fair pricing, without the need for Know-Your-Customer (KYC).

Adjustable coverage, real-time funds tracking, by-the-second-billing, all of these options are familiar to most modern consumers particiapting in the financial world. They are also all available currently in DeFi, albeit from a small group of projects.

The path forward 

DeFi continues to mature and attract a larger user base from both the retail and institutional sectors. The inflow of hopeful newcomers should therefore facilitate the development of a more robust DeFi ecosystem.

This is where the availability of risk management tools and insurance solutions can alleviate concerns around the security of asset holdings.

Capital is increasingly flowing into DeFi. As a result, it is virtually a given that hacks will continue to occur and perhaps even increase in magnitude.

To offset associated risks and ensure a safe playing space, projects see the pressing need for insurance. This is turning into the option for risk protection in digital assets.

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Robert Foster , Co-Founder of Amor Finance
Robert Forster co-founded Armor Finance in 2020 with the mission of making DeFi safer. He is the current CTO of Armor Finance. Robert majored in Business, and worked as a part time general web developer during the early days of blockchain. In 2016 he began coding Solidity, and shifted into blockchain full-time in 2017. He worked as lead Solidity developer for Minerva in 2017, then made a move to Coinvest (now Coindefi) in 2017/2018. During some of this time he worked on personal projects...