Custodial Wallet
Custodial wallets are typically used by centralised exchanges (CEXs), which control the wallet for the user. They are easier to use for individuals who do not want to keep track of multiple keys and seed phrases. CEXs typically provide a user-friendly experience, as they are known for their convenience and ease of use, especially for newcomers. Users simply log in to a CEX to access the wallet.
There are inherent risks associated with custodial wallets, including if a centralised system is overloaded, which can end up restricting users from accessing their assets. Additionally, as custodial wallets are provided on a large scale, government regulation can affect their service. However, some CEXs have taken measures to ensure the safety and security of their users.
Service providers can implement strong security measures to prevent unauthorised access, which include two-factor authentication (2FA), email confirmation, and biometric authentication (i.e., facial recognition or fingerprint verification). Many exchanges will not allow a user to make transactions until the user properly sets up these security measures.
Exchanges and custodial wallet providers usually take further steps to ensure the safety of users’ tokens. For example, a portion of the funds is typically transferred to the company’s cold wallet, where it can be safe from online attackers.
Key Takeaway
A custodial wallet is held by an entity, such as a centralised exchange (CEX), and the user does not hold their assets’ private keys, as the service provider is in charge of holding the user's wallet.