What is Staking?
Crypto staking is a term you'll hear a lot if you're a cryptocurrency investor. Many cryptocurrency technologies use staking mechanism to verify transactions, and doing so allows participants of staking to earn rewards on their staked crypto assets.
But what exactly is crypto staking!?
Staking cryptocurrencies is the process of committing your cryptocurrency assets to support a blockchain network and confirm transactions.
It is compatible with cryptocurrencies that process payments using the proof-of-stake model. This is a less energy-intensive (energy efficient) version of the original proof-of-work model. Mining devices that use computing power to solve mathematical equations are required for proof of work. Staking can be a great way to generate passive income with your cryptocurrency, especially since many cryptocurrencies offer high interest rates for staking. However, before you begin, remember that there are risks associated as well. It is critical that you fully understand how crypto staking works.
How does staking work?
Proof of Stake (POS) chains generate and validate new blocks through the staking process. Staking involves validators locking up their coins so that the protocol can randomly select them at specific intervals to create a block. Participants who stake larger amounts usually have a better chance of being chosen as the next block validator.
This enables the generation of blocks without the use of specialised mining hardware such as ASICs. While ASIC mining necessitates a large investment in hardware, staking necessitates a direct investment in the cryptocurrency itself.
As a result, rather than competing for the next block with computational work, PoS validators are chosen based on the number of coins staked. The "stake" (the coin) is what motivates validators to keep the network secure. If they do not do so, their entire stake may be severely compromised. While each Proof of Stake blockchain has its own staking currency, some networks use a two-token system, with rewards paid in a separate token. This issuance of a new token is often times done for tax benefit purpose.
What is proof of stake?
Proof of stake is a consensus mechanism in cryptocurrency — a way for a blockchain to validate transactions. A blockchain's nodes must agree on the current state of the blockchain and which transactions are valid.
Cryptocurrencies use a variety of consensus mechanisms. Proof of stake is one of the most popular due to its efficiency and the fact that participants can earn rewards based on the cryptocurrency they stake.
Staking rewards are an incentive provided by blockchains to participants. Each blockchain has a predetermined amount of cryptocurrency rewards for validating a block of transactions. When you stake cryptocurrency and are chosen to validate transactions, you receive cryptocurrency rewards.
To know the difference between POS and POW check out our previous blog - Proof of Work Vs Proof of Stake
What are the advantages of staking?
Many long-term crypto holders see staking as a way to put their assets to work for them by generating rewards, rather than just sitting in their crypto wallets collecting dust. You can earn around 10% or 20% a year.
Staking also contributes to the security and efficiency of the blockchain projects you support. By staking some of your funds, you strengthen the blockchain's resistance to attacks and its ability to process transactions. (Some projects also give "governance tokens" to staking participants, which give holders a say in future protocol changes and upgrades.)
Risks of staking crypto?
The most significant risk of crypto staking is that the price will fall. Remember this if you come across cryptocurrencies with extremely high staking reward rates. Many smaller crypto projects, for example, offer high rates to entice investors, but their prices then crash. If you want to add cryptocurrency to your portfolio but prefer less risk, cryptocurrency stocks may be a better option.
Although the crypto you stake remains yours, you must "unstake" it before you can trade it again. To avoid unpleasant surprises, find out if there is a minimum lockup period and how long the unstaking process takes.
How you can start staking?
Anyone who wishes to participate in staking may do so. However, becoming a full validator may necessitate a significant minimum investment (for example, ETH2 requires a minimum of 32 ETH), technical knowledge, and a dedicated computer capable of performing validations 24 hours a day. Participating on this level entails security concerns and is a serious obligation, as downtime can result in a validator's stake being reduced.
However, there is a simpler way to participate for the vast majority of participants. You can contribute an amount you can afford to a staking pool using an exchange such as Coinbase or Binance. This lowers the entry barrier and allows investors to begin earning rewards without having to operate their own validator hardware.
Proof of Stake and staking provide more opportunities for anyone interested in participating in the consensus and governance of blockchains. Furthermore, simply holding coins is a very simple way to earn passive income. The barriers to entry into the blockchain ecosystem are lowering as it becomes easier to stake.
It's important to remember, however, that staking isn't without risk. Because storing funds in a smart contract is prone to bugs, it's always a good idea to DYOR and uses high-quality wallets like Trust Wallet.