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Crypto Staking Guide for Beginners

Updated: July 12, 2023
Disclaimer: This article constitutes the author’s opinions and should not be interpreted as financial advice in any way.

Cryptocurrency staking is a booming new investment field that has taken the world by storm since 2021. But what is crypto staking, how is it done and why should you or should you not invest? 

What is Crypto Staking?

Crypto staking is the lending of cryptocurrencies to be used as collateral by proof-of-stake (PoS) blockchains to achieve a variety of outcomes, such as extending loans, validating network transactions, earning interest or gaining new crypto tokens (yield farming) as rewards. Most commonly used by Ethereum and its decentralized finance (DeFi) protocols, this innovative yet risky method of essentially gaining passive income much like interest would accrue on an investment in traditional finance is helping to open up new markets for cryptocurrencies and finance new projects. 

There are a number of factors that are contributing to the rise of digital asset staking.

Rise of DeFi

One is the explosion of decentralized finance, which has brought to life decentralized trading and lending platforms like Uniswap and Compound which allow users to invest their funds without the need for centralized intermediaries and earn outrageous returns on investment (ROI) thanks to a new breed of staking schemes called liquidity mining and yield farming, which we’ll discuss later.

Proof-of-Stake popularity

And of course, there’s PoS technology. As the cryptocurrency ecosystem grows, PoW-based protocols are falling out of favor due to their slow speed, substantial overhead costs, and lack of flexibility (it is inherently harder to run dApps on PoW systems). It can be argued that PoW blockchains were never intended to scale to the levels required by mass adopted cryptocurrency networks. Therefore, other leading decentralized networks like Ethereum have shifted from supporting mining with specialized equipment to staking PoS protocols.

Bullish Bitcoin

Then there’s the number of long positions among crypto investors. Unlike a few years ago, where most people were only interested in short term profits, many are now investing in digital currencies for the long haul, which is what staking allows, on top of earning passive income from the staked assets. 

This is only strengthened by the ongoing bull run. Therefore, most investors prefer to HODL than sell their holdings, which leaves them with idle assets that they could monetize via staking.

Should I Stake my Crypto?

should i stake my crypto
Source: 3commas

If you are a cryptocurrency holder/HODLer, the question is why not? You already have exposure to these assets anyway, therefore, in a perfect world at least it’s all upside if you stake. Crypto was supposed to democratize money markets for the benefit of the retail investor, and it’s starting to deliver on this promise.

Unless you are actively trading, having idle assets is a waste of potential passive income. Furthermore, you don’t need to buy any equipment at all, unlike with Proof-of-Work (PoW) mining operations for the likes of Bitcoin and Ethereum (until 2021). The beauty is,  anyone can become a crypto staker. You don’t need millions in the bank as in traditional finance.

Of course, it’s not as easy as that. It’s easy to say in a bull market that you should stake crypto, as your collateralized asset is likely to appreciate in value as well. However, if you stake a more volatile cryptocurrency, or external market conditions cause prices to dump, you may rue this decision, as you will have lost significant value at the end of its fixed staking period. Of course, there’s the option of negating this volatility by staking stablecoins.

There is also the risk of scams and hacks. Crypto staking requires smart contracts to function, which are vulnerable to hacker exploits and exit scams called rug pulls. DeFi’s 2020 is littered with exploited protocols which have cost users hundreds of millions of dollars. 

Therefore, it is important you do your research, and stake based on your risk appetite and what you can afford. Chances are you’ll be fine, but you never know. Try to stake in reputable and proven crypto projects, and use trustworthy platforms. Always make sure the project’s smart contract has been audited. Take responsibility for your investment. 

How Does Cryptocurrency Staking Work?

crypto staking eco system
Source: CryptoRoi

The staking process allows PoS blockchain to run continuously. It works by having validators lock up their coins (stake) in order to be randomly chosen by the system to produce a block. The larger the staked amount, the higher the chances of a staker being chosen for the next block, as well be given a block reward.

Let’s take Ethereum staking as an example. 

The minimum staking amount required for an Ethereum node is 32 ETH. If Bob stakes 32 ETH while Alice stakes 64 ETH, Alice has twice as much chance to be chosen as the next block validator than Bob. But this doesn’t mean Bob can’t be chosen since the system selects randomly. And both Alice and Bob are essential for the network to run smoothly and fairly. Therefore, they need to be adequately incentivized via block rewards in the form of the protocol’s native token.

Types of Proof of Stake

What is Proof of Stake (PoS)?

Proof-of-Stake (PoS) is a consensus mechanism in which stakers or block validators are chosen randomly, proportional to the amount of coins they stake. It was created by Vitalik Buterin as an alternative to Bitcoin’s Proof-of-work (where powerful computer hardware are used)  to overcome the old consensus mechanism’s inherent latency and scalability issues.

Unlike PoW, PoS protocols use minimal electricity to maintain a node and are therefore much more environmentally friendly.

What is Delegated Proof of Stake (DPoS)?

In 2014, a variation of the PoS mechanism was created by Daniel Larimer called Delegated Proof of Stake (DPoS), which was first used by BitShares, and then other networks like EOS and Tron followed.

By design, DPoS appears to be an implementation of on-chain democracy, where voting and electoral processes are conducted to maintain the network’s integrity and security. It enables users to delegate their coins as votes. A user’s voting power is proportional to the amount of coins he holds, which are used to elect a certain number of delegates who run a blockchain system for all users. Normally, the delegates also distribute a percentage of the network rewards to their voters proportional to how much voting power they have committed to them.

Benefits of Proof-of-Stake (PoS)

crypto staking graphics
Source: Coinguru.com

There are a few serious benefits or advantages to crypto staking and proof of stake over proof of work blockchains. 

No equipment required

One is that stakers, unlike miners on PoW systems, don’t need to purchase expensive equipment. 

Passive income

Second, it’s a great way to earn passive income while keeping control of your digital wealth.

Non-technical

Third, staking has low entry barriers compared to PoW-based mining. The ease of staking is further enhanced when using staking-as-a-service platforms since the technical bit is abstracted from the staker.

Additionally, the benefits of DeFi staking follow the same path, especially when using reputable decentralized hardware like the CoolWallet, which enhances the security of funds. Note that oftentimes DeFi staking rakes in better profits than normal on-chain staking.

More scalable

In line with this, PoS protocols allow better scalability as proven by higher transaction throughputs and lower fees offered by blockchains like Solana, EOS, Cardano, etc. 

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Eco-friendlier

Moreover, since PoS chains are less energy-extensive, they are more environmentally friendly thanks to a smaller carbon footprint and have little to no impact on the environment.

More cost-effective

PoS chains are also cheaper to run and be a part of, as it doesn’t require the expensive computer equipment that PoW does.

More decentralized and secure

Many crypto proponents argue that PoS systems are also more decentralized and secure than PoW protocols since a PoW miner that controls 51% of the network hash rate effectively controls the blockchain and can edit transactions to his/her advantage. 

Why does Proof-of-Stake offer better protection against a 51% attack?

This can however be done to PoS network too, but  it is a lot harder to pull off, in theory, since it would require a malicious actor to buy up 51% of the network’s tokens, causing the price to shoot up to unimaginable heights that the coin becomes unaffordable long before a staker accumulates all 51%. 

With all these combined reasons, it is no surprise that many cryptocurrency-focused projects are choosing the “stake” over the “work”. As such, the battlefield is littered with platforms incentivizing users to lock native tokens into their wallets to secure the network while validating transactions. The more the stakers or staked amount, the higher the security of a PoS-based network.

Crypto Staking Risks and Disadvantages

Whales dominate

Source: bravenewcoin.com

The obvious disadvantage of PoS systems is that large stakeholders can have exceptional influence over the network. This means that the less distributed the coins are, the more centralized a PoS blockchain becomes. While new mechanisms have been proposed and implemented to circumvent this, the amount staked will always be proportional to the chances of being selected as a validator. Therefore, this issue can never be entirely avoided.

High staking requirements

Another disadvantage is the minimum staking requirements imposed by most blockchains, which requires deep pockets. For instance, Ethereum requires at least 32 ETH while Dash requires a minimum of 1000 DASH to run a masternode. This leads many stakers to resort to using centralized platforms in order to stake less than the minimum required, which adds a layer of centralization to the validation process.

Hacks

Above all, DeFi staking is the riskiest type of staking activity. Therefore, DeFi users should be conscious about their choice of platforms to farm yields.

This is because some platforms use unsecure smart contracts making it easy for hackers to siphon funds. For example, a report by CipherTrace indicates that DeFi hacks soared in 2020 compared to 2019. Interestingly, in 2020, the DeFi ecosystem recorded a massive growth swelling from $1 billion to over $15.34 billion in total value locked (TVL). 

Poor coding

A DeFi protocol need not be hacked for its users’ to lose funds. A few or even one line of error in its code could cause a system failure that could potentially trigger unpredictable outcomes, for instance, irreversibly lock up user funds.

Scams

Another risk in DeFi staking are rug pulls. This phenomenon is caused by malicious projects’ teams who artificially drive a currency’s staking rewards high only to dump their holdings when most people have staked.

Devaluation of staked assets

For normal staking, whether centralized or decentralized, there is still the possibility of devaluation of staked assets. For instance, if you bought your staked ETH at $1250 each and its value drops to $500, your gains from staking will likely not be able to make up for the loss of value. Opting to stake on stablecoins can, however, mitigate this risk.

What Crypto Can I Stake?

A lot! In short, any cryptocurrency that can be tied up as collateral through a smart contract can be staked

PoS networks are taking over, which has led to the availability of many coins to stake. Unfortunately, some of the coins don’t have mouthwatering incentives, which means they are not ideal for investors to lock their funds.

Stablecoin Staking

Staking cryptocurrencies like ETH and BTC entails the risk of devaluation of one’s staked crypto assets. Fortunately, we now have the option to stake stablecoins, which are inherently free from price volatility. There are several platforms, both centralized and decentralized, that enable users to lock up their stablecoins and earn passive income.

Some examples of non-custodial protocols that allow stablecoin staking are Compound Finance and dYdX. 

Ethereum Staking

No staking guide is complete without the leading smart contract platform, Ethereum. Staking on this protocol was launched at the beginning of December 2020. Ethereum had the first idea to abandon the PoW spirit, and has been working on its transition to PoS ever since its release. 

To stake on the second-largest blockchain requires 32 ETH coins to run a node. Unfortunately, the platform doesn’t natively support delegated staking. But there are ways to stake with less than the minimum amount required by the protocol.

ETH holders with less than 32 ETH need to use third-parties such as Binance, Kraken, or Coinbase. On Kraken, the APY ranges between 5 and 17 percent. Currently, the APY stands at 11.21%, according to Stakingrewards.com.

DeFi staking

DeFi staking is different from direct staking on decentralized protocols or centralized platforms that offer pool staking. Users on decentralized finance (DeFi) platforms rely on smart contracts to participate in staking and earn rewards.

Staking on decentralized platforms is commonly called liquidity mining or yield farming. Liquidity mining, as the name implies, is the process of helping to provide liquidity to DeFi protocols in exchange for commissions. The added liquidity, often sent to liquidity pools that aggregate the loaned assets, comes in the form of users’ crypto assets, which are locked up in a DeFi protocol through the use of smart contracts.

The most popular DeFi tokens to stake include MKR, UNI, SNX, and many more. In addition, there are also hybrid DeFi protocols that function as yield aggregators, allowing users to find the best staking yields on multiple platforms.

Probably the most popular yield aggregator is Yearn Finance, where users can stake YFI. Before hurrying to stake your coins, your choice of staking platform is as important as the rewards. Making the wrong choice may see you lose your rewards and staked coins all together.

How to stake crypto in 5 easy steps

Begin your crypto staking journey by following these easy steps:

1. Select a PoS crypto coin you want to stake

New proof-of-stake (PoS) coins are popping up everywhere, making it hard to decide which one to choose for staking. Unfortunately, spending time on research is an essential part of a crypto staker’s journey. Make sure you take the time to understand potential coins’ risks and rewards.

2. Prepare a wallet for staking (for non-exchange staking)

To stake your crypto, you will need to prepare either a software or hardware wallet where you can keep both your staked crypto and earning rewards. However, if you use some centralized who effectively control your assets, you don’t need to.

3. Meet the minimum coin staking requirements

While some projects like Cardano and Cosmos have no low threshold for staking, others like Ethereum require a sizeable investment (32 ETH). Ensure you have the funds available to continue staking your preferrred crypto.

4. Choose the right hardware

To stake your crypto you will need to act as a validator node, which requires that you have a strong-enough machine that is continuously connected to the Internet at all times. While a normal desktop computer should suffice, you’ll also need to consider the electricity costs. Alternative options may be to use cloud computing through virtual private servers.

5. Ready, set, stake

Once you’ve chosen your staked coin, created a wallet and transferred at least the minimum required coins and set up the right hardware, follow the staking software instructions and keep your device connected. Congratulations, you’re earning passive crypto!

Can I stake crypto on CoolWallet?

Yes! This is an advanced security technology that keeps your cryptocurrencies safe.

With a unique, sleek design, CoolWallet Pro is equipped with advanced security technologies, such as an encrypted Bluetooth connection (AES 256 military-grade) and 2+1 factor authentication (biometric and physical verification of all transactions via the app and card). As your private key is permanently locked inside CoolWallet Pro’s EAL6+ secure element, your digital assets can not be exposed to external hacks and scams.

Go to XTZ, SOL, ATOM, ADA stake now!

Conclusion

Crypto staking is a new activity that has revolutionized the face of cryptocurrencies and provide a compelling new use case. As PoS networks proliferate and grow in influence, so too will this powerful investment tool.

If you have idle crypto investments growing dust somewhere, take the time to research options and look into staking them. As always though, please do your own research and weigh up your risks. 

Written by Werner Vermaak

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