What is cryptocurrency staking?
Cryptocurrency staking involves locking up one’s cryptocurrency holdings to earn interest or rewards. Technically, “staking” is the way certain blockchain networks verify transactions.
From an investor’s perspective, cryptocurrency staking is a way to grow cryptocurrency holdings without needing to buy more. Cryptocurrency staking for maximum passive income is a legitimate way to earn returns through existing cryptocurrency holdings. Investors who participate in staking enjoy higher interest than what is offered through a normal bank account.
If you are interested in staking crypto but are not familiar with the term, let us bring you up to speed. Before going there, it is essential to understand the concept of blockchain technology. Cryptocurrencies are built on blockchain technology. Transactions involving this type of cryptocurrency need to be validated before the corresponding data can be stored on the blockchain. This validation process is called staking.
Let’s break it down a bit more.
As blockchain networks are decentralized, there are no middlemen. This is opposed to traditional financial systems that use banks, for example, to serve as a depository for the public’s money.
As such, decentralization mandates a publicly accessible registry across the network to ensure full transparency and validity of all transactions. Transactions are grouped into “blocks” and presented for inclusion in this record, which is immutable.
By the way, this is the biggest security feature of blockchains. Since everything is accessible and verifiable through a distributed public ledger (the registry), it is very difficult to cheat or hack.
That said, once these blocks are accepted, users who own these blocks get a transaction fee as payment in the form of cryptocurrency.
What does staking have to do with all this? you will ask yourself. Quite simply, staking is a safeguard against errors and fraud that may occur during the process.
Every time a user proposes a new block or votes to accept a proposed block, they put part of their cryptocurrency on the line. This process encourages compliance with the rules. So, in principle, the more cryptocurrency a user puts into play, the higher the chances of earning rewards for the transaction.
However, if a user’s proposed block is found to have fraudulent or inaccurate data, they may lose what they put on the line. This process is called “slashing”.
How does cryptocurrency staking work?
There are many ways to start staking cryptocurrencies. For starters, you can choose to validate transactions using your own computer. You can also “assign” your crypto to someone you trust and ask them to validate you.
Please note that not all cryptocurrencies can be used for staking. We’ll talk about this later, so read on.
What is proof-of-stake?
Proof-of-stake is a consensus mechanism that allows blockchains to validate transactions. In proof-of-stake (PoS), the number of coins (or the stake amount) determines the chances of validating a new block.
PoS was created as an alternative consensus mechanism to the original proof-of-work (PoW). PoS is one of the most common consensus mechanisms and is continually gaining traction for its efficiency and the ability to earn cryptocurrency staking rewards.
Unlike PoW, which consumes a lot of energy and requires a lot of computing power, PoS does not require as much computational work to verify transactions. Coin owners “stake” their coins as collateral to validate blocks.
What are staking rewards?
Staking rewards are incentives offered to blockchain participants. On each blockchain, there is a certain amount of crypto rewards allocated for the validation of transactions. Therefore, cryptocurrency staking participants receive staking rewards when they are chosen to validate transactions.
Basically, staking allows participants to earn more crypto. Interest rates vary depending on the network, but participants can earn up to 20% or 30% annually. Many people stake cryptocurrencies for passive income or to invest their money.
Cryptocurrency staking methods
To stake cryptocurrencies, one must select a cryptocurrency that uses the proof-of-stake model, such as Ethereum. There are several ways to stake cryptocurrencies:
Through an exchange
You can choose to use an exchange to stake your tokens on your behalf. An exchange is an online service that specializes in crypto matters. Most exchanges ask for a fee in exchange for staking services. Some popular exchanges that offer staking are Binance.US, Coinbase, and eToro.
Joining a staking pool
Some investors do not use exchanges simply because not all of these platforms support a wide range of tokens. Therefore, another alternative is to join what is called a “staking pool”, usually operated by another user.
You will have to connect your tokens through your crypto wallet with the validator pool. To ensure the legitimacy of these validators, be sure to check the official websites of proof-of-stake blockchains to understand how they should operate.
Being a validator
Validators are owners of staked coins. They are randomly selected to validate a block. It is the equivalent of “mining” when using a competency-based mechanism such as proof-of-work.
Naturally, one of the most effective ways to stake cryptocurrency is by becoming a validator yourself. Blocks are validated by more than one validator, and when a specified number of validators verify that the block is correct, it is finalized and closed.
However, it is a bit more complicated than using an exchange or joining a pool, as it requires you to build your own staking infrastructure. You need to have the right equipment with the right computing power and software and download the entire transaction history from the blockchain.
Becoming a validator also usually involves a high cost of entry. On the Ethereum network, you need to have at least 32 Ether (ETH), which is roughly equivalent to $140,000, give or take. Read more about staking and how to become a validator on the Ethereum network here.
Is cryptocurrency staking profitable?
So the burning question is: How do you make money from cryptocurrency staking?
Let’s say it like this. If you are already familiar with the practice of crypto mining and trading, then that is a great start. Staking can be just as profitable, without the risk that comes with mining and trading.
So yes, cryptocurrency staking is profitable. Basically, you have to buy and hold some coins and add them to the mining pool. The benefits you get, which usually come in the form of transaction fees, will depend on how much you bet and how long you do it.
Aspects to take into account to increase the benefits of staking
Generally, you get more profit from staking as you keep staking more. However, there are other things to keep in mind when increasing your profits:
- coin value: Avoid betting a currency with very high inflation rates. You might get big rewards at first, but since the value of the coin is volatile, you might be left with little or no profit.
- fixed offer: Make sure the token or coin has a fixed supply. The limited circulation of coins in the market ensures a healthy demand and a constant increase in price.
- real applications: The demand for cryptocurrencies largely depends on the actual applications of a currency. If it is widely used for various real-world applications, such as digital payments, it will continue to be in healthy demand and price.
Which cryptocurrency is best for staking?
As mentioned above, not all cryptocurrencies are viable for staking. Bitcoin (BTC), for example, does not support staking because it uses a different method to validate transactions: proof-of-work. Generally, if a cryptocurrency is linked to a blockchain that uses proof-of-stake as its incentive mechanism, it could be eligible for staking.
ethereum
Ethereum offers significant staking returns because it remains one of the most popular altcoins on the market today. The average rate of return for Ethereum staking is 5-17% per year.
Cardano
Like Ethereum, Cardano is also a smart contract platform. Cardano (ADA) is the digital currency that powers the platform’s proof-of-stake network. Binance supports ADA staking and offers returns of up to 24%.
eos
EOS is also used to support decentralized programs, much like Ethereum. EOS (EOS) can be staked to earn rewards with an average of 3.2%.
Cosmos
Dubbed the “internet of blockchains”, Cosmos allows different blockchains to transact with each other through interoperability. Several platforms support Cosmos (ATOM) staking, including Coinbase, Kraken, and Binance. ATOM staking returns an average of 7% per year.
Tezos
Tezos is an open source network with Tezos (XTZ) as its native currency. XTZ can be staked on various platforms such as Kraken, Binance, and Coinbase. The average XTZ staking return is currently 6%.
Polkadot
Polkadot, like Cosmos, encourages interoperability between various blockchains. Despite being relatively new, Polkadot (DOT) staking is supported by several platforms, including Kraken, Fearless, and Binance. The current average Polkadot staking return is 12% per year.
Can you lose money by staking cryptocurrencies?
When investing, the first and most important thing to consider is the risk involved. So is cryptocurrency staking safe?
Of course it is, but there are definitely some risks involved.
In general, you cannot “lose” money by staking cryptocurrencies per se. Things to watch out for are things like inflation and illiquidity, to name a few. Given the volatility of cryptocurrencies, there are chances that the coin you stake could drop. For example, if you stake your cryptocurrencies and they lose value even after you’ve earned post-staking returns, then technically speaking, you could still lose money.
Also, if you are a day trader, you will not be able to use the coins for several weeks or months and thus miss out on the chance to bet on the lucrative ones. That is why it is important to be careful when choosing which coins you want to stake.
Review the tips we’ve outlined in the “Is Cryptocurrency Staking Profitable?” section. to make sure you are making the right decision before staking.