Crypto Staking: As is the case with many other aspects of cryptocurrency, staking can be a complicated concept or a straightforward one, depending on how many levels of understanding you wish to uncover.
For many traders and investors, the essential takeaway is that staking is a method of collecting incentives for holding specific coins. However, even if you’re only interested in earning staking rewards, it’s beneficial to grasp how and why the system operates the way it does.
How does the staking process work?
If you own a cryptocurrency that supports staking — currently, Tezos, Cosmos, and now Ethereum (through the upcoming ETH2 update) — you can “stake” some of your holdings and earn a percentage rate reward over time. This is typically accomplished through the use of a “staking pool,” which functions similarly to an interest-bearing savings account.
While your crypto is staked, it gets incentives because the blockchain puts it to work. Staking-enabled cryptocurrencies employ a “consensus mechanism” known as Proof of Stake to ensure that all transactions are validated and protected without the intervention of a bank or payment processor. If you choose to stake your cryptocurrency, it becomes a part of that process.
Why do only some cryptocurrencies have staking?
This is the point at which it becomes more technical. Bitcoin, for example, does not permit staking. To understand why a little background information is necessary.
- Cryptocurrencies are often decentralized, which means they are not governed by a central authority. Therefore, how do all the computers in a decentralized network arrive at the correct answer without being given it by a central authority such as a bank or credit card company? They employ a “consensus mechanism.”
- A large number of cryptocurrencies, including Bitcoin and Ethereum 1.0, employ a consensus method known as Proof of Work. The network utilizes Proof of Work to direct a massive amount of computing power toward solving challenges such as authenticating transactions between strangers on opposite sides of the globe and ensuring that no one attempts to spend the same money twice. A component of the process involves “miners” from all around the world competing to solve a cryptographic challenge first. The winner wins some cryptocurrency in exchange for the opportunity to upload the most recent “block” of validated transactions to the blockchain.
Proof of Work is a scalable method for a relatively simple blockchain like Bitcoin’s (which acts similarly to a bank’s ledger, tracking incoming and outgoing transactions). However, for something more complicated like Ethereum — which supports a wide variety of applications, including the entire realm of DeFi — Proof of Work can generate delays in the event of excessive activity. As a result, transaction delays and costs may be extended.
What is Stake Proof?
Proof of Stake, a novel consensus technique, has arisen with the goal of enhancing speed and efficiency while decreasing fees. Proof of Stake significantly lowers costs by eliminating the need for all those miners to churn through math problems, which is an energy-intensive operation. Rather than that, transactions are authenticated by those who have invested literally in the blockchain through staking.
Staking is similar to mining in that it is the method by which a network participant is chosen to add the most recent batch of transactions to the blockchain in exchange for a reward in cryptocurrency.
While specific implementations differ, in essence, users stake their tokens in exchange for the chance to add a new block to the blockchain in exchange for a reward. Their staked tokens serve as a guarantee for the legitimacy of any new transaction added to the blockchain.
The network selects validators (as they are commonly referred to) depending on the size of their stake and the duration of their ownership. As a result, the participants who have invested the most are rewarded. If the network discovers that transactions in a new block are invalid, users may have a portion of their stake burned in what is known as a slashing event
What are some of the benefits of staking?
Many long-term cryptocurrency investors view staking as a method to put their assets to work for them by earning rewards rather than sitting dormant in their crypto wallets.
Additionally, staking benefits the security and efficiency of the blockchain projects you support. You increase the blockchain’s resistance to attacks and improve its transaction processing capacity by staking a portion of your funds. (Some projects also pay staking players with “governance tokens,” which allow holders a say in future protocol updates and upgrades.) What are some staking risks?
Staking frequently entails a lockup or “vesting” period during which your cryptocurrency cannot be transferred for a specified amount of time. This can be a disadvantage, as you will be unable to exchange staked tokens during this time period, regardless of whether prices change. Prior to staking, it is critical to conduct research about the specific staking requirements and rules for any project in which you wish to participate.
How can I get started with staking?
Staking is normally available to anyone interested in taking part. That said, becoming a full validator may involve a significant minimum investment (ETH2 requires a minimum of 32 ETH), technical knowledge, and a dedicated computer capable of performing validations day or night without interruption. Participating at this level entails security concerns and is a significant commitment, as downtime can result in a validator’s stake being halved.
However, there is an easier way to participate for the great majority of individuals. You can donate any amount you like to a staking pool via an exchange such as Coinbase. This lowers the entry barrier and enables investors to collect rewards immediately without the need to operate their own validator gear. Staking is offered to the vast majority of Coinbase customers in the United States and a number of other countries.