Staking: what is it and how does it work?

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What is staking?

staking

Staking is an alternative to mining and is considered one of the best investments in the cryptocurrency market. Let’s take a closer look at what staking is, how you can make money on it, and what risks an investor may face.

What is staking crypto?

staking

Staking is the process of locking a certain number of digital coins in a cryptocurrency wallet in order to ensure the operation of the blockchain in exchange for receiving a reward. 

In many cases, this process depends on the users who take part in the transactions on the blockchain using a personal cryptocurrency wallet. The staking process uses the Proof of Stake (PoS) algorithm – proof of ownership. This method of confirming transactions is used in various blockchains running on PoS or one of its variants.

The main feature of staking is that it is considered a complete replacement for mining. Staking allows investors to earn on cryptocurrency without the need to purchase specialized equipment.

Staking vs. mining

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Mining is the process of processing transactions on a blockchain using the Proof of Work (PoW) algorithm, designed to keep the network running. In turn, the miners are participants in this process. They generate the blocks needed to store account and transaction data. In order to get a new block, the user needs to perform certain calculations and find a secret combination of symbols. Let’s see what is the difference between staking and mining.

Staking

Mining

Transaction processing is carried out using Proof of Stake.

Transaction processing is carried out using Proof of Work.

To mine blocks, investors need to buy and hold tokens.

Mining blocks requires powerful equipment.

An eco-friendly way to create a chain of blocks in the blockchain that does not require additional costs.

It requires a lot of energy and is harmful to the environment.

The staking process is simplified and considered more open to members of the blockchain community.

Mining requires more involvement in the process.

It does not require technical knowledge and skills.

To make money on mining, you need to be well versed in technology.

Types of staking

The principle of operation of staking is similar to a bank deposit – the user transfers funds to the account, stores them, and receives passive income for this. The more funds are deposited into the account, the more income the user will receive.

In addition to the basic principle of how staking works, each individual blockchain system may have its own terms and conditions.

Today there are three types of staking: locked, flexible, and DeFi staking. Let’s take a closer look at each of them.

Locked Staking

Locked staking is for users who want to make big profits. It specifies in advance how long the funds will be frozen. That is, investors themselves can choose the period of storage of their tokens.

It can be a week, a month, or a year. Please note that funds will not be available for trading or withdrawal during the selected time. Naturally, the investor can buy them back without waiting for the end of the period, but in this case, he will be able to return only his invested funds, without additional interest. It is also worth noting that the percentage of income for fixed contracts is higher than for other types of staking.

Flexible Staking

Unlike locked staking, flexible staking does not have an end date for storing coins and the investor can stop participating in the validation process at will. As a rule, interest begins to accrue within 24 hours after the funds are deposited, and rewards are paid every 30 days. It should be noted that interest will be accrued until the user withdraws the coins.

Flexible staking is suitable for those who are not ready to freeze their funds for a long time. Coins are stored in a spot wallet, where investors are rewarded for holding their funds.

DeFi staking

DeFi (decentralized finance) is a set of services that operate on the basis of the blockchain. They include features such as lending, insurance, forecasting, and more.

DeFi projects are based on the use of smart contracts. Their advantage lies in the fact that they provide automatic execution of transactions in compliance with predetermined conditions for their conduct.

DeFi staking differs from conventional staking in that third parties are involved in the process. For example, it can be organizations or individual users who take cryptocurrency from another user on credit.

The system is designed to control the execution of transactions. But in any case, it is necessary to check the level of efficiency of an individual smart contract, because theoretically, it can have vulnerabilities.

DeFi staking is considered one of the attractive types of investment for several reasons:

  • The ability to immediately withdraw earned interest during the day.
  • The income can be 100% per annum and higher (depending on the chosen coin and the period of its storage). Working with conventional blockchains that use PoS, it is difficult to get more than 10% per year.
  • Users are protected from fraud by smart contracts.

 

Staking risks

staking

  • The possible drop in the value of a digital coin. The lower the coin rate, the lower the reward amount (in fiat). Therefore, it is necessary to choose tokens with a low level of volatility, which demonstrate dynamic or stable growth. Investing in digital coins that have a high level of volatility can lead to loss of funds, especially with fixed staking. In the event of a strong drop in the value of the coin, the user will not be able to sell it.
  • The risk of losing an account in online service or on a crypto exchange. Therefore, all passwords and logins should be stored in a safe place.
  • Fraud risk. If the validator asks to send him money, this is a clear sign of fraud. Such requests must be ignored.

How to choose a coin to stake?

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When choosing a cryptocurrency, it is necessary to take into account the volatility of the coin and the minimum amount that can be stored in the contract. For example, if we talk about Ethereum 2.0, then not every user can afford to freeze 32 ETH.

You also need to pay attention to the trading volume, the higher it is, the more demanding the digital coin. In addition, it is recommended to reallocate your portfolio at least once every 3 months.

Cryptocurrency market experts highlight several interesting tokens at once that can bring profit to investors:

  • PancakeSwap (CAKE)
  • SushiSwap (SUSHI)
  • ApeSwap Finance (BANANA)
  • Cardano (ADA)
  • Tezos (XTZ)
  • Polygon (MATIC)
  • Theta (THETA)
  • Algorand (ALGO)
  • Cosmos (ATOM)
  • Polkadot (DOT)
  • Avalanche (AVAX)

Conclusion 

Staking continues to be one of the most sought-after types of earnings, as it allows users to receive high profits with minimal risks. If we talk about income in general, then it is determined by the choice of the coin, the period of its storage, and the type of staking. For different users, the received percentage can vary greatly. But in any case, investors will receive their reward, since staking is a more reliable type of investment in the cryptocurrency market. Some projects pay a percentage only to those users who are selected as validators. But to become a validator, the user must have a large amount in the account.

 

READ MORE: Best‌ ‌Cryptocurrencies‌ ‌to‌ ‌Invest‌ ‌in‌ ‌2022‌

Alina Sattarova

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