With digital assets being a hot topic in recent years, cryptocurrency staking is one strategy that traders use in order to generate passive income. By simply delegating and locking up crypto holdings, traders are able to earn rewards such as earning additional tokens and getting some voting rights.
But in order to profit from it, one must first grasp the fundamentals in order to make their investments more efficient. The article below will help you get started on understanding what staking is and why it should be considered for traders.
What is Cryptocurrency Staking?
The general idea behind cryptocurrency staking is that it involves agreeing to provide a blockchain network with a percentage of your cryptocurrency. The blockchain network makes use of your cryptocurrency for network improvement, such as better compliant transactions.
It’s also best to keep note that higher staking risk offers back higher rewards
Staking is thought to be a unique way of supporting transaction confirmation. Despite it being one of the passive ways to earn money, crypto staking is not made available for every coin in the market. It is only accessible through coins that employ the proof-of-stake model (PoS). Compared to the proof-of-work model, it is more effective at confirming transactions and consumes less energy.
What is Proof-of-Stake?
Cryptocurrencies use the proof-of-stake consensus algorithm to process transactions and add new blocks to a blockchain. A consensus mechanism is a procedure for approving database inputs and maintaining the database’s security. In the context of cryptocurrencies, the database is referred to as a blockchain, and the consensus mechanism protects the blockchain.
Crypto developers employ proof-of-stake (POS) to validate block transactions based on the number of coins staked by a validator. In terms of the risk of a network attack, proof-of-stake (POS), which structures compensation in a way that makes an attack less advantageous, is considered to be less risky.
Proof of Work
Powerful computers used by miners must solve challenging puzzles in the proof of work consensus algorithm. To solve the problems, the trial and error method is used. A proof-of-work system requires powerful computers. However, POW requires a lot of power, transaction times may get slower as the network grows.
The proof of work model has drawn a lot of criticism due to the enormous amount of energy it consumes, which worsens the effects of global warming. This has caused China to prohibit cryptocurrency mining for the same reason in order to lower carbon emissions and lessen the effects of global warming.
What can I benefit from Cryptocurrency staking?
Cryptocurrency staking can be beneficial not only for traders but for the whole blockchain ecosystem as well. In an article by Banerjee (2022), here are some of the benefits:
The mechanism used in staking uses very little energy, which ultimately benefits the environment. It is significantly better than crypto mining because it does not require a lot of computational power.
The Blockchain Network Benefits
Staking cryptocurrency makes the blockchain network’s transaction processing more effective. In addition to this, it helps the system maintain a high level of security and reduces fraud.
Aids in Increasing Interest
One of the best ways for investors to earn a sizable sum as interest is by staking cryptocurrencies. In general, it can give you good returns. But, bear in mind that there are also some risks which we’ll cover in the next section.
What are the drawbacks of Cryptocurrency staking?
Staking crypto will also have its drawbacks which could be a problem for most. The following are considered to be problems of staking:
Impermanent loss is a common downside of cryptocurrency staking that puts the entire crypto market in danger. Due to the extraordinary volatility of the cryptocurrency market, the value of tokens can fluctuate significantly in just a few hours. Therefore, while you are staking a coin it might lose a lot of value while it’s staked.
There is always a possibility that your wallet will be taken. Since the emergence of blockchain technology, cryptocurrency theft has significantly increased. It puts both cryptocurrency owners and the daily services they depend on in peril. The fact that your money is “frozen” during the staking time does not ensure its security, either. So be sure to use a reliable wallet to prevent it from happening. Research the wallets that are best for you.
Lockup periods for Cryptocurreny Staking
Some stakable assets in the area of cryptocurrencies have a lock-up time. You cannot unlock an asset that has been locked for a predetermined period of time until that period has passed. There is nothing you can do, making you powerless. This could have a big impact on your overall investment. For this reason, it is suggested that you use cryptocurrencies that offer staking without lock-up periods. The staked cryptocurrency will be within your control here.
What we learned so far cryptocurrency staking
Staking cryptocurrency is a great way to establish a steady passive income stream. Making wise investments is the only thing needed. Staking can be viewed as the future of cryptocurrencies because it uses the proof of stake paradigm, which is far more environmentally friendly than the proof of work strategy.
Just remember that before venturing into staking, take the time to get to know the coins you’ll lock into. Do your own research and analysis and always do your due diligence when trading.