The Ins And Outs Of Proof-of-Reserves

Read time: 7 minutes

One of the big leagues in the industry, FTX’s stunning implosion caused a stir last week that resonated. The market crisis was so severe that it affected the world’s largest cryptocurrencies such as Bitcoin and Ethereum, causing the prices of digital currencies to plummet.

What direction will cryptocurrency investors take as they are baffled by this situation? centralized exchange Do you work hard to regain the trust of the public?

I can see why centralized exchange I am working on proof of reservation.Given that proof of reserves Increase the transparency of cryptocurrency exchanges by showing that assets and liabilities are matched.

In this article, I comment on my views on proving reservations and how restoring trust is a great solution. centralized exchange.

Introducing Proof of Reserve

Custodial service providers who hold their customers’ funds in virtual currency will provide proof of the reserve program. With this, the cryptocurrency exchange proves that reserve deposits match liabilities.

This convinces users that the exchange’s holdings of deposits are sufficient to prove the customer’s ability to pay.

Proof of Reserve provides balances for all crypto assets listed on the platform, and users can also check their balances collectively.

Deriving it into a simple formula,

proof of reserve + proof of liability = proof of solvency

reference: Proof of Stockpile – Nick Carter

Go into details…

Several cryptocurrency exchanges have committed to maintaining transparency. proof of reservesActually, what is the big picture of it?

Cryptocurrency exchanges use margin as a vehicle to prove that the exchange has sufficient liquidity to initiate customer withdrawals. Customers can also monitor their funds on the exchange in parallel.

But how is this implemented? must be used. merkle tree, to produce an efficient data structure.Customers can now point their funds merkle tree by giving their respective hashes.

Does this mean that customers can fully guarantee their funds on the exchange? What if the exchange borrows funds to demonstrate accountability for its debts?

This highlights the importance of hiring third-party auditors to prove that on-chain or off-chain holdings match the money the exchange claims it holds. Verification of liabilities and balances by third-party auditors makes the proof of reserves somewhat credible.

The proof of the reserve audit is detailed in the next article.

Reserve audit flow

Exchanges can be described as being loyal to their users by hiding certain liabilities and matching them with reserves.

So we need a third-party auditor to fully evaluate the platform and check these realities.

The audit process is as follows.

During an audit, the company will provide records of all holdings of reserves and user deposits.
Auditors check whether on-chain and off-chain holdings equal the company’s total reserve claim
The auditor verifies the user’s balance by hashing it with a unique ID and verifies the address by transacting random amounts against the account.
encryption merkle tree Data structure integration.hash is merkle treeto create a Merkle root.
The accuracy of user balances is merkle tree.
And finally, all addresses are merkle tree Auditors will validate the platform if it matches the custodian’s claims.

Underlying Concerns Regarding Reserve Audit Evidence

Exchanges can cheat by hiding certain liabilities. Therefore, an individual merkle treeThis way you can be sure that the company’s reserves are sufficient to back the funds.

Proving control of on-chain fund holdings is difficult because exchanges can forge funds by borrowing them for a short period of time. Also, exchange reserves displayed on the Nansan.ai dashboard are point-in-time and not real-time.

It can also give a false sense of security if auditors endorse reserves. This allows users to put their trust in audits and check the balance of their reserves.

These are some of the other concerns in fully relying on the margin disclosed by the company.

CEX Reveals Proof of Reserves – Where It All Started?

FTX Fall Triggers CEX Disclosure proof of reserves for better transparency.

Let’s touch on the history of FTX – the reason behind all the rage!

A Timeline of the Events of the FTX Collapse

2017 – Sam Bankman-Fried (SBF) founded Alameda Research, a cryptocurrency trading company.

2019 – Sam Bankman-Fried founded FTX, a cryptocurrency exchange that issues its own FTT token. FTX is his fourth largest cryptocurrency exchange.

2021 – SBF promotes Alameda Research trader to co-CEO, focusing on FTX platform.

Until the CoinDesk report was published on November 2, 2022, FTX was thought to be doing well. Let’s take a look at the sequence of events that followed.

November 2, 2022: CoinDesk’s report on Alameda’s troubled balance sheet succumbed to speculation as it exposed its heavy reliance on the FTX exchange’s FTT token.

November 6, 2022: Binance CEO Changpeng Zhao (CZ) tweeted about plans to sell Binance’s holdings of FTT tokens, citing CoinDesk’s article on FTX and Alameda blurry funds.

Meanwhile, after CZ’s tweet, suspicions began to rise that FTX lacked liquidity to back user transactions, and users began to withdraw funds. SBF tweeted the same day, November 6th, that he had a $5 billion withdrawal.

November 8, 2022: Binance and FTX CEOs have signed a non-binding agreement to buy the failed FTX exchange and defuse panic in the market.

FTX has suspended non-fiat customer withdrawals. SBF tweets about FTX liquidity issues with apology.

November 9, 2022: Having said that, having completed its “corporate due diligence,” Binance has withdrawn its plans to acquire the FTX exchange.

November 11, 2022: FTX has filed for voluntary Chapter 11 bankruptcy proceedings against FTX, FTX.US and Alameda.

November 11, 2022: On Friday night, November 11th, more than $600 million was exfiltrated from FTX and FTX.US wallets in an apparent hack. On his Telegram, FTX distributed a message that the FTX app was malware and asked users to stop interacting with the platform.

Centralized exchange response during wake of FTX crash

After FTX Implosion, Binance CEO CZ Proposed Merle-tree Public proof of reserves by crypto exchanges to curb the panic that is spreading across the industry.

Top exchanges such as Kraken and Gate.io merkle tree For user verification.

Others like Coinfloor and HBTC have self-assessed evidence of reserves. merkle tree An approach for users to check balances.

Several other cryptocurrency exchanges, including Huobi, Poloneix and Crypto.com, have also announced that they will be launching their reserves.

World’s Top Cryptocurrency Exchange – Binance Leads the Way to Greater Transparency!

Following Binance’s commitment to transparency, it has disclosed cold wallet addresses and crypto holdings listed on the platform.

Binance Reserve holds 475,000 BTC, 4.8M Ether, 17.6 billion USDT, 601 million USDC, 58 million BNB and 21.7 billion native stablecoin BUSD.

Additionally, CZ tweeted about making markle tree Proof of funds to be shared with the community in the coming weeks.

Reflecting on the Company’s Stockpile – Breathe Away!

Creating a proof of reserve obviously doesn’t match the transparency that decentralization offers, but it’s better than nothing for the following reasons.

Ensuring that exchanges pay attention to depositor funds for solvency. Customers can be confident that their funds are reserved, ensuring project continuity with the exchange.
It acts as a powerful self-regulatory tool. This allows the exchange to make its reserves available to the public on a regular basis and to facilitate public disclosure about the rules the exchange does.
Periodic PoR proofs make it virtually impossible to hide fractional reserves.

PoR audits for greater transparency and credibility

In conclusion, merkle tree Proving reserves may be an improvement, but not a complete solution. Having information about funds without the customer having full control over the funds is an excellent verifier for the customer.

Also for ease of access, QuillAudits pitches in “Web3 Proposals” to bring the community together to get aggregate information on documented margins by exchanges.

https://web3suggest.xyz/

PoR audit details are one click away from QuillAudits security experts. https://t.me/quillaudits_official

Frequently Asked Questions

What is PoR certification?

Proof of Reserve provides balances for all crypto assets listed on the platform, and users can also check their balances collectively. A third-party auditor will perform proof of her PoR to periodically check the reserve balance.

What is considered a reserve asset?

Highly liquid assets such as stablecoins such as Bitcoin (BTC), Ether (ETH), Binance (BUSD), Dai (DAI) and US Dollar Coin (USDC).

Are audits required to verify a company’s reserves?

Third-party certification confirms that the company’s reserves transparency is far superior to self-certification. At the same time, it is also important for custodians to provide cryptographic hashes to users to check the balance of their reserves.