Bitcoin exchange hacks have plagued the cryptocurrency ecosystem since the first platforms for trading were launched in the early 2010s, and these events have caused major public relations issues for the entire crypto asset market. While exchange hacks don’t have anything to do with potential technical problems related to the underlying Bitcoin network, it’s never a good look when millions or even billions of dollars worth of Bitcoin is stolen from thousands of exchange customers in a matter of minutes.
Although the Bitcoin exchange industry has improved its ability to deal with crypto asset security over the years, the threat of another large hack is always looming over the ecosystem. But that could soon change.
One of the main features of Bitcoin is that it’s programmable money, and developers have figured out new ways to build exchanges in ways that do not require users to turn over control of their funds until the exact moment they want to make a trade. One of the new exchanges that is taking advantage of this technology is Nash.
How Does Nash Secure Customer Funds?
In the past, exchange customers have always deposited their coins onto trading platforms with the exchange taking custody of the funds. That exchange platform then becomes a central point of focus for hackers because there’s a big payday in it for them if they’re able to get into the exchange’s internal wallet.
Many Bitcoin enthusiasts are excited about the Lightning Network’s potential to cut transaction costs, speed up transactions, and potentially improve user privacy. And this same sort of technology can be used to vastly improve the level of security offered by exchanges.
Nash uses a system of state channel smart contracts to handle trades, and the system is currently live on the Ethereum and Neo blockchains. Notably, the Ethereum blockchain briefly surpassed Bitcoin in a key measurement of overall adoption last month. However, Ethereum’s ETH token is also down heavily against Bitcoin over the past couple of years.
According to Nash co-founder Fabio Canesin, Bitcoin support is expected to be added to their platform soon.
“We initially demonstrated that our proposed architecture could deliver cross-chain markets that compete with the performance of centralized exchanges – an extremely important parameter for liquidity,” said Canesin when reached for comment. “For this reason, we focused on the NEO-ETH market. Now that this is live and functioning well, we can move onto other networks. Bitcoin is the obvious next candidate owing to its importance in our industry.”
State channels effectively allow multiple parties to transact with each other in Bitcoin or other cryptocurrencies without having to touch the blockchain. This works via a technical trick that involves two parties placing funds into a 2-of-2 multisig address and then creating valid transactions from that multisig address to each of their personal addresses as a way to update how much of the funds in the multisig address belong to each party. None of these generated transactions are actually broadcast to the blockchain. The only transactions that hit the blockchain are the ones at the end when each party is ready to leave the payment channel with the appropriate amount of funds (if this was too confusing try reading this longer explanation of the Lightning Network).
While decentralized exchanges have existed in the past, a key advantage of using state channels is they allow transfers to happen instantly, meaning users don’t have to wait seconds or minutes for blockchain confirmations to execute their trades.
It should also be noted that, while customer funds cannot be stolen by hacking an exchange’s internal wallet, hackers could still cause plenty of damage if they were able to push out a malicious software update to Nash customers. That said, this is still a huge security gain.
“Updates require a signed payload using offline keys,” said Canesin when asked about this potential issue. “However, if a hacker did somehow manage to push a malicious update, users would also have to log in and sign a transaction before encountering an issue. The data in our software is not enough, since user-provided entropy is also required. We try to mitigate these risks by building several layers of protection.”
The high level of security offered by Nash also relies on the integrity of the smart contracts backing the exchange, and vulnerabilities in advanced smart contracts have continued to pop up in 2019.
Other projects that are working on this type of non-custodial trading technology include SparkSwap, which is built on the Lightning Network, and Arwen, which has built its own plugin model for existing exchanges.
In addition to their trading platform, Nash is also working on a mobile wallet, browser extension, and payment processing service for merchants that will all be integrated with each other.
While even the developers behind Bitcoin admit the cryptocurrency is an experiment that could still fail, exchanges like Nash are another step in the right direction when it comes to improving both usability and security of this technology at the same time. This is also the sort of technology that makes it clear that it would be difficult for governments to implement a Bitcoin ban, as two members of the U.S. Congress recently admitted.