Trading Infrastructure and Preventing FTX 2.0

These emerging platforms are creating robust and transparent trading infrastructure while offering self-custody to users meaning that the exchange can never steal customer funds. This month we will dive into this new infrastructure and evaluate how both spot and perpetual trading markets are being reshaped. We will highlight two of our portfolio companies, Genius (spot trading) and Rails (perpetual trading), which are leading the way in radically improving and securing the future of crypto trading.

‍

Crypto trading infrastructure refers to the underlying technology, architecture and processes that power the trading of digital assets. It includes everything from exchanges (centralized and decentralized), trading engines, custody solutions, APIs for automated interaction and cross-chain integrations. This infrastructure not only supports the execution of trades but also governs how user assets are stored, transferred and safeguarded.

‍

Well-built trading infrastructure must address three critical elements: speed, security and scalability. FTX was the world leader when it came to speed and scalability; the FTX APIs were lightning fast and as a result, it attracted significant liquidity and many of the best traders in the world. However, asset security was poor and because of fraudulent behaviour and the fact that there were no technical safeguards, customer assets were always at risk and ultimately lost.

‍

‍

Historically, the crypto trading scene has been dominated by Centralized Exchanges (CEXs) like FTX, Binance, and Coinbase. Binance is the largest exchange in the world with over 170m users worldwide and a daily average trading volume of around USD65bn. Centralized exchanges act as intermediaries between buyers and sellers, offering strong liquidity, user-friendly interfaces and fast transaction speeds. The main advantage of centralized exchanges lies in their liquidity and efficiency. By pooling a vast number of users into a single platform, CEXs enable fast order matching, instant trade execution, and smooth cross-chain swaps. However, as the FTX debacle demonstrated, these platforms present significant risks. Users must trust the platform to manage their funds properly, and if the exchange mishandles assets or suffers a hack, users are at risk of losing all their assets.

‍

A newer entrant to the trading space are Decentralized Exchanges (DEXs) such as Uniswap and dYdX. These offer an alternative to CEXs by eliminating the need for intermediaries. DEXs operate via smart contracts that automatically facilitate trades directly between users, offering increased security and privacy. The main benefit is self-custody; users retain full control of their funds throughout the entire trading process, reducing the risk of centralized failure. However, DEXs have historically struggled with liquidity, slow transaction speeds and higher fees, making them less attractive for high-frequency traders or those seeking cross-chain flexibility. This is something that is starting to change with the DEX user experience improving and traders shifting towards them. In Q1 2024, DEX quarterly volumes grew to USD177bn, up 33% vs. Q4 2023.

‍

At this point, it is worth distinguishing between spot trading and perpetual trading:

• Spot Trading: refers to the immediate exchange of one asset for another at the current market price. The buyer owns the asset outright once the transaction is complete. This form of trading is simple and commonly used by traders who wish to hold assets for long-term investment or use.
  ‍
• Perpetual Trading: involves trading derivatives—financial contracts that derive their value from an underlying asset. In perpetual futures contracts, traders can take long or short positions without owning the asset. Perpetual contracts have no expiration date, offering a continuous opportunity for speculation, leverage and risk management. They are used by advanced traders seeking to hedge, speculate on price movements or take leveraged positions.

‍

To date, centralized exchanges have had an edge over DEXs in both spot and perpetual trading. In the case of spot trading, centralized exchanges take out the headache of cross-chain swaps, with the exchange platform acting as a bridge between chains. For example, a user can send ETH to Binance, swap it for BTC and then withdraw the BTC directly. There is no need to wrap crypto assets or for the user to bridge assets themselves. In the case of perpetual trading, CEXs have offered faster speeds and transaction efficiency as running on centralized databases means that data has less far to travel to execute. There is no need for consensus to be reached on decentralized databases with servers distributed around the world.

‍

It has been clear for years that DEXs offer superior security provisions than CEXs. What has been lacking is speed, scalability and a user experience that can rival CEXs. However, we are now seeing and investing in platforms that are ready to make a credible challenge to the Binances and Coinbases of the world.

‍

Introducing Genius

Genius is a mix of a crypto wallet, a cross-chain bridge and a spot trading platform. The team is obsessed with building slick user experiences and the platform’s key differentiator lies in its ability to blend decentralized custody with the simplicity of a centralized user experience.

‍

‍

Genius removes the headaches that have historically come with CEXs and DEXs. On the security side, the app offers users the ability to trade across multiple chains—such as Ethereum, Solana and Arbitrum—while retaining control over their assets. It is self-custodial, meaning that users have control over their own private keys and do not have to provide KYC (Know You Customer) information to hold their own assets. At the same time, the platform is far easier to use than DEXs that have come before it. From a user perspective, they simply see a wallet with assets and an exchange function to swap between different assets on different blockchains. This is where the technical wizardry comes in.

‍

Technically speaking, Genius is not a DEX, a bridge or an exchange. It describes itself as a “cross-VM chain abstraction layer”. In layman’s terms, this means that Genius grants its users the ability to interact with different blockchains without needing to know anything about the blockchain they are on. Genius leverages existing DEXes and bridges and abstracts them behind their frontend. From a technical perspective, there are a few pieces of infrastructure that Genius leverages:

• Stablecoin vaults: Genius’ trading architecture works by deploying stablecoin vaults on each chain. This is a simple and elegant solution for cross-chain swapping. When a user asks to swap ETH to SOL, what happens on the backend is that ETH is swapped into a stablecoin on Ethereum and the corresponding stablecoin is swapped into SOL on Solana. In doing so, stablecoins act as the bridging mechanism across chains.
  ‍
• Stargate: this is a liquidity transport protocol that Genius uses to rebalance the stablecoin vaults every few minutes. When vaults are in high demand, extra liquidity is automatically re-routed to that chain to service the demand.
  ‍
• LIT Protocol: a decentralized key management system that is user-friendly and allows users to easily manage their private keys. Using the protocol, non-custodial wallets can be created using familiar authentication methods like Discord or Google. Genius also makes use of Lit Actions, which can interact with smart contracts and execute transactions.
  ‍

Genius radically overhauls the way users interact with crypto. Instead of downloading browser extensions like MetaMask or Phantom, the user can make a spot trade in a single interface authenticated using web2 credentials. The user trades seamlessly across the entire digital asset ecosystem despite their inability to name a single bridge, chain or DEX. Genius reduces friction and makes DeFi accessible for the next billion users.

‍

Introducing Rails

For professional power traders looking to use perpetuals, it has been tough to look beyond CEXs as the speed is impossible to match. As a result, a new platform called Rails has created a hybrid crypto platform that combines the efficiency of centralized order books with the security of decentralized custody. Unlike purely centralized exchanges, where user assets are held by the exchange, Rails allows users to retain control of their private keys and wallets while benefiting from the liquidity and speed of a centralized order book. This approach effectively eliminates many of the risks associated with centralized exchanges, such as custodial failures, while still offering blazingly fast and efficient trading.

‍

‍

The key innovation behind Rails lies in its hybrid structure. By maintaining a centralized order book, it ensures that trades are executed with speed and precision, offering the benefits of high liquidity and minimal slippage. At the same time, decentralized custody systems ensure that users always remain in control of their assets, reducing the risk of hacks or mismanagement. On top of this, the Rails team has built out several technical innovations including:

• Zero-Knowledge Proofs (ZKPs) for Transaction Privacy: trades can be executed and validated without revealing sensitive transaction details. ZKPs allow the platform to verify the correctness of transactions while maintaining privacy for the user.
  ‍
• Advanced Matching Engine for High-Frequency Trading: the team are experts at building low-latency online systems, having previously re-architectured the messaging engine for the wildly popular social media app Grindr. Using similar techniques, they have built a high-performance order matching engine that can handle large trading volumes with minimal latency.
  ‍
• Modular Architecture for Scalability: Rails is designed with a modular architecture, allowing it to scale more efficiently as the user base grows. The system can easily integrate new features, chains and assets without disrupting core operations.
  ‍

Rails is innovating in both decentralized and centralized spaces. The trust-minimized, high-performance trading platform caters to both advanced traders and security-conscious users. The team has lined up an impressive array of traders and market makers so that liquidity will be strong from the launch, which is scheduled for Q4 this year. The platform is perfectly positioned for traders who want the security of a decentralized system without sacrificing the convenience and liquidity of a centralized exchange.

‍

The crypto world has learned hard lessons from the collapse of FTX. While fast, user-friendly interfaces are important, we now acutely understand the need for more secure, transparent and reliable trading infrastructure. Platforms like Genius and Rails represent the next generation of exchange, combining the best of both worlds—decentralized custody and centralized user experiences and efficiency. By offering self-custody, cross-chain trading and the ability to trade spot and perpetuals, these platforms are building a safer and more flexible environment for crypto traders. As the industry continues to evolve, these hybrid models may be the key to preventing another FTX-like disaster and ensuring the future growth of decentralized finance.

‍

At CMCC Global, we are thrilled to have invested in the seed rounds of both Genius and Rails. Genius was a token investment made through Digital Asset Funds 3B and 4. Rails was an equity investment made through our Titan Fund. Both teams are exceptional, and we are excited to watch them compete with the incumbent behemoths. Binance’s estimated revenue in 2023 was around USD14bn and its token market cap is at almost USD80bn. The upside of becoming a leading player in this category is staggering.