What Is Crypto Staking?
It’s common for blockchain platforms to incentivize users for their contribution to the network — such rewards allow crypto holders to leverage extra income. Staking, for one, is a common way to participate in transactions via the Proof-of-Stake protocol.
To stake crypto, users need to support the network by running the nodes. There are two ways to go about this: you can either become a solo staker or join a staking pool and rely on a third party as a validator.
On one hand, choosing an off-the-shelf infrastructure takes the stress of having to run validator software on your computer 24/7. On the other hand, you need to choose a reliable staking pool to protect yourself from downtimes and security threats.
All things considered, in the face of low energy consumption (compared to PoW), the ability to get started with basic hardware, and a high return guarantee, the benefits outweigh the risks by a huge margin.
If you are still new to crypto staking, stick around to discover its benefits, best coins to stake, and platforms for staking.
Staking Coins: Passive Income Sources in the Crypto Space
The common sources of income in the crypto industry are trading, HODLing, mining, and lending. Let’s take a look at how staking compares to each of these investment approaches.
#1. Crypto Staking
Simply put, staking is the way to “lock up” your coins in a crypto wallet. Over time, the protocol probabilistically chooses a coin holder to become a transaction validator. It’s not a fully random process — depending on a protocol, either a higher coin age, a larger amount of staked coins, or both, increases a staker’s odds to make it through. However, keep in mind that specifics depend on a coin and its network, hence it’s crucial to study the documentation thoroughly.
Coin age — the product of the amount of time during which a user holds tokens and the number of tokens.
A node chosen to validate a new batch of transactions (a block) is incentivized by earning transaction fees as staking rewards. An annual percentage yield (APY) is typically between 5% and 20% out of the total amount of staked coins (with possibly even higher APYs for new projects), depending on the blockchain network.
To understand the technicalities behind staking, let’s take a look at Proof-of-Stake, an algorithm that uses pseudo-randomization to appoint a node as a block validator.
Proof-of-Stake was first introduced in 2011 as a way to deal with the pitfalls of Proof-of-Work — the most popular consensus mechanism used to mine BTC or ETH.
The main objective of Proof-of-Stake was to alleviate the energy strain PoW puts on the environment.
How much energy does Proof-of-Work consume?
The Judge Business School of the University of Cambridge released a set of estimates, according to which, at the moment, Bitcoin consumes 130 TWh of electricity per year — enough to power a mid-populated country.
By comparison, staking validators consume about 60MWh per year. Even though this is just an estimate — dealing with decentralized and permissionless entities makes it impossible to get exact data, the difference of 7 orders of magnitude is still staggering.
To understand how proof of stake protects the security of transactions, let’s break down the basic logic of this algorithm:
- Staking participants “lock” a number of tokens — “stake”.
- Among different nodes, one is selected as a validator. Users who hold more tokens have a higher chance of selection.
To prevent the wealthiest nodes from dominating the system, the range of selection methods regularly expands — two other strategies are the Coin Age Selection and the Randomized Block Selection. The former takes the coin age of a user into account when assigning victory odds while the latter includes hash values among the criteria.
- After assessing the transactions in the block, a chosen node approves them by its signature, and a new block is added to the chain.
- The validating node receives a sum of fees associated with all transactions in the new block.
- When a node no longer wants to forge (note: in the context of staking, the term “forging” is preferred over “mining'') blocks, both the rewards and the stake will be released after a set period of time. During this lock-up, a staker won’t be able to withdraw coins.
What makes Proof-of-Stake a secure system? Simply put, it makes no sense for stakers to add fraudulent transactions to the block — this will immediately be detected by other network participants, and such malicious actors will lose the right to participate in staking, along with a part of their stake (a process called slashing). Since single rewards are usually considerably lower than stakes, the foul play would put fraudsters at risk of losing many more coins than they would make in transaction fees.
When different community members share their investment advice, it’s common to hear about HODLing: a strategy of buying crypto at low prices and not selling it despite significant spikes in valuation. Since crypto is highly volatile, tables can turn quickly — such intense market dynamics build up an excellent backbone for HODLing.
If you are curious to find out about the history of HODLing, take a look at the original post by GameKyuubi on the Bitcoin forum that set off both the trend and the name.
Compared to trading, HODLing takes less time and has a lower error margin. However, making a profit of HODLing calls for patience — people who bought BTC for $0.30 could’ve sold it for $1 or $10 per coin, getting excellent returns. But the winners are those with the patience to “HODL” out — and sell their coins at over $56,000 per 1 BTC (at the time of writing).
Before you think that HODLing “sounds good”, make sure you are aware of risks associated with it.
Not all crypto is worth holding
Since the big crypto boom in 2017, a lot of companies started launching currencies and encouraging people to buy in. Most of those who decided to invest were in for a disappointment — hundreds of coins died over less than a year. On the other hand, projects like ChainLink, Filecoin, or Celsius, have not only survived, but thrived. At any rate, HODLing requires a high-risk appetite, that’s why not all investors are cut out for it.
Lack of regulation
The lack of a regulatory backbone keeps some investors from going all into the crypto buy-and-hold. In fact, a lot of governments take a skeptical or antagonistic stance against crypto, seeing in it a threat to fiat currencies. On top of that, some altcoins are created with pump-and-dump strategies in mind, which is why “Do Your Research” is the main rule of any crypto investment. In the long run, if the public opinion of crypto is unfavorable, the asset value can be dragged low for months, making HODLing a low- or no-profit investment.
Recently, DeFi companies reached an empowering milestone, hitting a market cap of $100 billion, an equivalent of a top-40 American bank. Considering the growing number of assets investors convert to tokens, it’s no surprise crypto lending is becoming a relevant source of passive income.
What’s the gist of crypto lending? As in any borrowing, two parties are involved:
- A borrower who uses crypto as collateral to get a loan in fiat currency or stablecoin.
- A lender who provides assets for loans in exchange for interest on the asset.
How to lend crypto?
To connect with borrowers, crypto investors use a lending platform that can be either centralized (CeFi) or decentralized (DeFi). The difference lies in the party responsible for infrastructure: a private business for CeFi and blockchain ledger for DeFi.
There are multiple benefits of choosing DeFi crypto lending, namely:
- Since lenders use a smart contract to provide a loan, the entire process is automated, and all steps are verified.
- No third-party custodians are needed to safe-guard the assets.
- Interests correlate with the market — if the value of crypto assets grows over time, the reward will be amplified as well.
- Automated collection of interest.
As for the best DeFi crypto platforms, these are the popular tools on the market:
- Maker — a DeFi platform behind a DAI stablecoin. The value of DAI is pegged to USD. The platform allows users to take loans in DAI by staking ETH as collateral.
- Compound — a platform that, rather than directly connecting lenders and borrowers, allows investors to put their assets in a shared liquidity pool. The pool is managed by a smart-contract system, cutting out middlemen.
The decentralized nature of crypto provides an upgrade to fiat currencies. Unlike centralized assets issued by governments and banks, the majority of the most recognized coins and tokens pursue decentralized architecture and governance.
Five factors determining the fluctuations of crypto value on the market are:
- Supply — the number of coins in circulation and the rate of coin issuance. As fewer coins are issued in a certain period of time, the value of a single unit tends to appreciate given limited supply and non-diminishing demand.
- Media coverage — the state of the market is highly dependent on the public image of crypto. That’s why the news stories and the amount of hype around digital cash are vital to increase or stabilize its value.
- Adoption — the number of large-scale payment systems and e-commerce platforms supporting crypto.
The impact of adoption on crypto space is huge. For example, when Elon Musk announced Tesla will be accepting payments in crypto, the BTC value jumped. Similarly, when the company withdrew its claims, BTC and other coin prices plummeted.
- Market capitalization — the total value of all crypto assets on the market.
- Major events — new government announcements and regulations, global economic setbacks, “black swan” events, etc.
On one hand, crypto is more autonomous than centralized currencies and more flexible than physical assets. Still, crypto trading is seen as a high-risk investment.
The key risks of crypto trading are:
- High asset volatility can lead to price spikes. After a price dip, an investor’s portfolio value can drop in multiples (as a lot of investors experienced back in 2018).
- Lack of regulation raises questions of how to classify crypto — as a commodity (CFTC does exactly this) or a property (as is the case for IRS). In November 2019, when China attempted to get a tighter grip on crypto companies, Bitcoin’s value dropped significantly. Although the free-wheeling nature is the selling point of a digital currency, regulatory confusion adds to the fire of market instability.
- A conflicting vision of a project, resulting in hard forks and discontinuations of certain blockchain projects. Some forks are a necessary party of blockchain updates, while others are a result of disagreements within the community. Discord within a crypto project community may impact its adoption, and consequently, decrease its value.
Blockchain forks are changes to the blockchain network that entail a significant diversion from the previous version of Blockchain. These alterations are so radical that they require all network participants to update the software they are using. The key risk of these bifurcations is weakening the network which is especially true for Proof-of-Work (PoW) blockchains since in such an event the total amount of hashing power is split between two network branches. As a result, a forked PoW blockchain is more susceptible to a 51% attack.
Mining cryptocurrency is a conventional way to issue new coins into circulation by solving complex mathematical problems such as calculating a hash of a specific input string (proof-of-work). Through proof-of-work, miners verify transactions to be added to the public blockchain database (e.g. a Bitcoin block) and prevent double-spending.
If you want to participate in securing the network and earn crypto at the same time, mining is the most appropriate way to get Bitcoins, ETH (for now), or other coins. Although mining is often hyped as a “low-investment” way to get tokens, that is not the case. That’s why, before committing, you should be aware of its challenges (most of these stem directly from using PoW as a consensus algorithm):
- Over time, mining crypto gets harder. In the case of Bitcoin, there’s a finite total supply of coins to be ever issued (21 million), with over 90% in circulation by now. Currently, around 900 BTC are mined every day. To make sure we don’t run out of Bitcoin in months, every four years the reward miners get for creating a new block is halved. After the first halving in 2012, the reward per block was 25 BTC — in 2020, it’s 6.25 BTC. Thus, mining Bitcoin will get harder over time, generating a lower annual yield and demanding more effort from miners.
- Computing power demands. We’ve already touched upon this point — mining is energetically straining. To get started, you’ll have to cover high electricity bills and use specialized hardware with extreme computing power.
While there are many ways to invest in crypto, there’s no ideal one. The drawbacks of traditional methods lead to increased interest in Proof-of-Stake — a relatively new method of crypto investments.
Now let’s take a closer look at staking advantages and compare them to other crypto investment strategies.
Advantages of Staking Coins Over Mining
Compared to mining, staking is a newer and seemingly riskier approach. However, given its benefits, it’s only a matter of time before growth-oriented currencies trade proof-of-work for proof-of-stake. To understand why staking provides such a compelling alternative to mining, let’s compare the benefits of both.
After comparing mining and staking face-to-face, it’s clear that the latter is more scalable, environment-friendly, and safer (the risk of the 51% attack is hugely alleviated). Nevertheless, if you still feel short on reasons to bet on staking, here are a few extra benefits.
Staking can be done on exchanges
Not having to deal with assembling the infrastructure is a major selling point of staking. If you want to focus only on tracking market trends and making staking decisions, signing up for a staking-as-a-service platform is an intelligent strategy.
Staking-as-a-Service tools provide users with the technical backbone for participating in transactions, typically in exchange for a flexible fee deducted from a transaction reward. These tools are vital to improving the accessibility of crypto, as they remove cryptocurrency space entry barriers for non-tech-savvy investors.
The popularity of SaaS platforms grows at a steady pace — at the moment, these are the most reputable exchange hosts:
- Redot provides institutional, professional, and retail investors with a powerful platform to trade digital assets instantly and securely with the lowest commissions.
- Coinbase is a cross-platform exchange based in the US. At the moment, it supports over 56 million users in 100+ countries.
- Kraken allows users to buy and sell Bitcoin, Ether, Monero, EOS, and other cryptocurrencies. The platform has a friendly fee system and promises users high liquidity.
Staking is easy to get into (especially cold staking)
As stakers lock up coins, they store stakes in crypto wallets that can be either defined as hot or cold.
A “hot” wallet is connected directly to blockchain meaning that the stake is available online. It’s a higher-risk storing strategy, since, when tokens are available online, they are susceptible to attacks.
A “cold” wallet, on the other hand, is hardware-based and stores coins offline. It’s rightfully considered a safer way to custody crypto because it’s harder for hackers to penetrate an offline system.
Keeping your coins in a cold wallet adds additional benefits to staking — an extra layer of security and electricity savings. However, unlike hot staking that is on 24/7, cold wallets are only on for as long as you run them, that’s why cold stakers should watch out for downtimes. That said, popular PoS coins like Ethereum 2 allow for 24/7 staking without ever exposing private keys online - that is achieved by using separate validator signing keys which do not control stakes and rewards directly.
Requires less energy
In areas with high electricity costs, staking is a much better bargain than mining.
A frequently quoted power demand estimate for hashing is one gigawatt per gigahash per second. It’s, by all means, a generous one — most household miners use electricity even less efficiently, consuming more power for single mining. Thus, mining a Bitcoin takes about 72,000 GW of power. For a resident of a country with high electricity costs like Germany or Japan, the spending is huge.
To that end, staking is a more stable investment, allowing investors to generate higher returns without excessive use of power. Globally, it’s also a more sustainable, eco-friendlier approach to scaling crypto.
Generate extra income
Staking crypto is the definition of “passive” income. Unlike mining, which is technically complicated and offers a slim profit margin, locking up your assets and relying on probabilistic odds is a lot more feasible.
If you don’t feel committed to maintaining a complex infrastructure and putting in the time to learn about the technicalities of mining, staking is a smart strategy for making the most out of crypto without going all-in.
It’s a great way to invest in cryptos
Staking is an excellent opportunity to explore crypto market trends. Most stakers don’t bet on a single coin — they have a bunch of different tokens scattered across exchanges and wallets. Over time, the accumulative APY of these investments can generate a decent return.
It’s worth mentioning that staking is also a way for investors to steer the growth and support the projects they believe in. A lot of proof-of-stake networks embrace on-chain governance, granting stakers voting rights on the future of their platforms.
Top 5 Staking Coins in 2021
Although conservative crypto investors might dismiss proof of stake as a replacement for PoW, the latest updates in the industry show that the prevalence of Proof-of-Stake is near.
The adoption of PoS by Etherum, for example, is a powerful move that declares the game-changing nature of proof of stake. In the official documentation, the founding team explicitly states that PoS has undeniable benefits compared to PoW, such as preventing centralization attempts, increasing the costs of running 51% attacks, and lack of the need to keep launching tokens to incentivize participants.
If you are not ready to become one of the early ETH 2.0 adopters, there are other popular coins you can stake. Discover the best coins to stake by examining cryptocurrencies with a high growth rate and a promising APY.
Returns on investment for most popular staking coins (March 2021)
- Automated, decentralized updates.
- Formal verification and smart contracts implementation.
- Uses DPoS (delegated proof of stake).
- Fast consensus.
Tezos is a blockchain network, designed to enable P2P transactions and smart contract deployment. Other than using an improved version of PoS — a delegated proof-of-stake that allows stakers to vote for delegates securing the decentralized network on their behalf — the project has a unique approach to governance.
Tezos uses on-chain governance that makes sure that the entire project does not rely solely on the founding team. Both developers (“bakers”) and coin-holders can vote for changes in the network, steering its development and growth.
- Provably secure blockchain technology less susceptible to attacks than other networks.
- Reliable voting mechanisms for stakers.
- Infinite scalability with the help of improved proof-of-stake implementation — Ouroboros.
- Separation of the accounting and computational layers.
Cardano’s founding team aims to build operations rooted in science and peer-reviewed research. The founding team’s values are interoperability, sustainability, and scalability. To reach scalability, Cardano developers designed the Recursive Inter-Network Architecture (RINA) to improve the network bandwidth and apply a series of memory-consumption-reducing techniques. The team implemented sidechains to improve interoperability and created a treasury that obtains a part of a block reward to ensure a sustainability overhead.
- Owning NEO tokens grants users the right to make management decisions.
- Token supply: 1 billion.
- Consensus mechanism: dBFT.
NEO is a China-based blockchain platform that supports smart contracts, asset management, and its own cryptocurrency. The team identifies the ecosystem as a smart economy system, comprised of three elements:
- Digital Identity.
- Digital assets.
- Smart contracts.
“Digital identity” is a platform-specific concept that refers to a unique verifiable set of user characteristics. It makes NEO legally compliant and eliminates the risks of network misuse.
As for assets, there are two types of data NEO users can manage. These are known as global and contract assets. The former ones are recognized by the entire system, its smart contracts, and users. The latter are contract-specific and cannot be referenced globally.
- Public blockchain: anyone can use VeChain to deploy and use decentralized applications.
- Custom enterprise software system geared towards manufacturers.
- Economic model: dual-token: VET — primary token, VTHO — utility token.
- Holding a set number of tokens grants free access to the network.
- Consensus model: Proof-of-Authority.
VeChain gained traction as a blockchain-based platform for logistics and supply chain management. Since its launch in 2015, the ecosystem has grown rapidly. Specifically, the launch of the mainnet in 2018 was the driving force behind the platform’s explosive development.
VeChain uses PoA (proof-of-authority) as its consensus model. It declares that, before participating in the lottery, nodes should be authorized. Unlike other proof-of-stake cryptocurrencies, VeChain levels the playground for stakers, putting everyone at equal odds of winning the right to sign a block.
- A protocol for building proof-of-stake and proof-of-authority blockchains.
- High blockchain performance (up to 1,000 transactions per second).
- Instant finality prevents forking.
- Modular Cosmos SDK.
The Cosmos team proclaims the ecosystem to be the most impenetrable open network of interconnected blockchains. It uses the Byzantine Fault Tolerance algorithm for consensus and scalability. The team aims to achieve usability with a modular, easy-to-manage Cosmos SDK. At last, with the IBC framework, Cosmos enables communication and asset transfer between blockchains. This technology could be a major breakthrough towards creating a so-called “Internet of Blockchains”.
How Are Rewards Calculated?
The profit a staker makes is directly correlated to staking rewards — incentives validators get for signing blocks which hold transactions. To understand how staking wallets determine the size of staking rewards, take a look at the calculation process.
- Staking rewards are directly proportionate to the number of tokens a staker keeps in the wallet. Simply put, the more coins you staked, the higher an incentive you will get.
- Validator performance determines the size of the reward — the more blocks a node has signed, the larger annual return the stake will generate.
- Inflation rate also impacts the size of the reward.
- Staking rewards are determined by how many blocks a network produces.
Keep in mind that transaction rewards are taxable. US-based stakers have to report their earnings as soon as they are higher than $600.
To calculate an estimated staking reward, crypto investors typically use calculators. Here are a few tools worth testing:
Where Can I Stake Coins?
Wallets and exchanges are the most common ways to stake crypto.
By definition, a crypto exchange is a service that allows trading cryptocurrencies for other assets, including traditional fiat or other crypto. Given the high number of available crypto exchanges, traders should have a set of criteria for choosing a reliable platform.
For example, you can shortlist exchanges by:
- Range of supported cryptocurrencies
- Ease of use
Let’s take a look at the most popular and reliable exchange platforms:
Designed by a team of experienced traders, Redot is a platform that supports crypto investors with low commissions, a customizable interface, FIX APIs, and a full focus on the highest security standards and regulatory compliance.
- High transaction throughput — over 300,000 transactions per second.
- 10+ crypto pairs.
- Regulatory compliance backed by exchange and custody licenses.
- Robust infrastructure supporting 24/7 high-frequency trading.
- Customizable interface.
- Responsive user support.
- Mobile app.
Binance is a cross-platform crypto exchange, with 24/7 support and a vibrant user community.
Despite the platform’s universal recognition, money laundering and tax fraud allegations (which put Binance under investigation by the Justice Department), encouraged a lot of traders to look for alternatives.
- Supports over 500 cryptocurrencies.
- High-level of security: 2FA verification, whitelisting, etc.
- Dozens of supported currencies
- 24/7 availability.
Coinbase is a beginner-friendly exchange platform that supports traders with an easy-to-use digital wallet and a payment gateway to PayPal.
- Over 50 supported currencies
- Enables basic transactions: buying, selling, and exchanging tokens.
- Security: digital wallets are AES-256-encrypted, FDIC insurance applies to USD balances.
- Global availability in over 100 countries.
Attempting to win over a growing number of crypto investors, wallets, too, started expanding their set of features and enabling staking support. Granted, the infrastructure falls short in functionality compared to specialized cryptocurrency exchange platforms. Even so, if you are considering using a wallet for staking, here are the products to keep in mind.
- Atomic Wallet — a decentralized and secure multi-currency wallet. Atomic Wallet supports a wide range of coins and allows users to delegate assets to validators and claim staking rewards.
- Airgap Wallet — a hardware wallet that stores cryptocurrency on users’ smartphones. At the moment, Airgap supports Tezos and Cosmos.
- Guarda Wallet is a multi-user wallet with a built-in exchange platform. The platform supports over 100 staking tokens.
Staking is a viable alternative to PoW due to lower energy consumption, simpler setup, and higher guarantee of yield. Since Ethereum and other innovative platforms are betting on proof of stake, it’s clear that staking is a way to secure a stable source of passive income.
Also, staking helps lower the entry barriers to the crypto market — to get started in staking, you need to choose a token you want to lock up and the infrastructure you would like to use. Make sure the tool you choose for locking up your crypto assets is reliable to not fall victim of rug-pulls. To start staking coins on a reliable platform, give Redot a try! Also, it is one of the few exchanges that enables cashing out ETH2 for ETH at any time!
Start staking ETH 2 with no fees and an annual interest rate up to 20%!
This communication is intended as strictly informational, and nothing herein constitutes an offer or a recommendation to buy, sell, or retain any specific product, security or investment, or to utilise or refrain from utilising any particular service. The use of the products and services referred to herein may be subject to certain limitations in specific jurisdictions. This communication does not constitute and shall under no circumstances be deemed to constitute investment advice. This communication is not intended to constitute a public offering of securities within the meaning of any applicable legislation.