What Is Staking And How Does It Work?

As with most crypto-curious beings, you may have been drawn into the niche by the lucrative prospects that cryptocurrencies hold.

Indeed, you could be having several of these digital assets sitting idle in your crypto wallet, waiting for the price to hike so that you may dispose of them at a profit.  

But did you know that these cryptocurrencies could earn you more coins or tokens?

Welcome to crypto staking.

Though relatively new, staking is a vital concept for every crypto enthusiast to understand and leverage its benefits to grow one’s portfolio.

But what is staking? How does it work? Is it profitable? How do I stake coins? Well, in this article, we will cover all that and more, which will not only build your crypto knowledge but will also help you become an informed crypto investor.

Stake away!

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What Does Crypto Staking Mean?

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In simplest terms, staking is locking your crypto assets into a blockchain platform to earn rewards by supporting and securing its operations.

The way blockchain technology is structured, transactions need to be verified and confirmed before being recorded on a public ledger. The validation process is done through a consensus mechanism.

Initially, the most common way to verify and validate crypto transactions was through mining using the Proof of Work (PoW) model, as is the case with Bitcoin. However, this method is heavy on the environment and requires expensive equipment to mine profitably.

That said, several alternatives to the PoW consensus mechanism have been brought forth, and the one that has gained the most traction is Proof of Stake (PoS).

Using this model, a network requires participants to lock their assets into the platform to help verify and approve transactions. In return, they are rewarded using a percentage of the revenue generated from the transactions.

Think of it in a similar way as depositing funds into a bank’s savings account and earning interest from it. Banks use your savings to lend to their customers and pay you interest on the revenue they generate. Crypto staking works in a similar manner – only that the return on investment (ROI) is way higher!

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How Does Crypto Staking Work?

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Essentially, it’s through staking that Proof of Stake blockchains ensure that their ecosystems thrive and function. Validators are required to lock their cryptocurrencies (stake) for a period of time to allow them to propose a new block and confirm a transaction.

Usually, becoming a validator is competitive, where the more coins you’ve locked away, the higher your chances of becoming a validator. Most networks have a minimum number of coins you need to stake to qualify as a validator.

Some blockchains, such as Lido and Mythos, allow the creation of staking pools where you can pool together your tokens with other token holders and share in the rewards generated by the particular pool. It helps spread the risk and is a perfect way to generate passive income.

Staking helps secure a blockchain network. Once a validator commits their tokens through staking, it acts as insurance against dishonest or malicious activities. Usually, misbehavior by a validator may result in slashing, which means losing a portion of their staked tokens as a penalty for the act.

When you delegate your tokens to a staking pool, you need to actively monitor the operator’s behavior to ensure they don’t engage in misconduct that could result in the loss of your tokens. However, such cases are rare since a lot is usually at stake – literally!

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Pros and Cons of Crypto Staking

Before committing to an investment, it’s always important to weigh the risk and benefits of such an endeavor.

Let’s look at the pros and cons of crypto staking:

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Advantages of Crypto Staking

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• Generate passive income – Holding tokens to profit from value appreciation is great. However, staking those tokens to earn rewards, usually paid using the native token, is even better. By staking, you don’t give up ownership of your tokens. In this way, you gain two ways – by earning rewards as your token appreciates in value.
• Environmentally friendly - Previously, confirming transactions required energy-intensive mining equipment, which consumes a lot of electricity to operate. However, studies by Crypto Carbon Ratings Institute (CCRI) show that PoS networks could reduce this carbon footprint by over 90%.
• Easy to start – Unlike in PoW mining, crypto staking doesn’t require the acquisition of specialized hardware to become a block validator. You also don’t need the technical know-how of operating nodes and solving complex computations. All you need is a regular computer and the capital to buy the necessary tokens to stake.

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Disadvantages of Staking

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• Lockup periods – To gain tangible profits from staking, you need to lock your assets for a given period of time. While you may withdraw your funds at any time (for flexible staking), there’s usually a lockup period within which you can’t access the staked tokens.
• Volatility – Cryptocurrencies are highly volatile. At times, the value of the digital asset that you’ve staked may fall due to bearish market conditions. Consequently, your interest on the rewards earned may devalue in case you unstake when the market is down.
• Risk of Takeovers – A PoS network’s security and operations are controlled by the validators. If you have more money, you may buy a higher stake as a validator. Such exposure has the risk of a takeover, and other stakers need to trust that such validators will act in the best interest of the network.

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Types of Staking

While different networks have their versions of staking, we can broadly categorize types of staking into the following:

• Validator staking – As the most popular way of staking, one locks their assets into a network where they earn rewards for validating transactions on their node.
• Delegated staking – In some networks, you can become a delegator where you don’t directly operate a node but delegate your staked tokens to a validator and share in the rewards generated.
• Cold staking – In most cases, staking requires locking your tokens on the chain for you to earn rewards. However, for cold staking, you can stake your assets using an offline wallet. The only catch is that the locked assets have to remain in that particular wallet address so that you may not lose out on the rewards.
• Staking pools – When using a staking pool, you need to identify a staking pool operator and lock your assets in the particular pool. The operator is responsible for setting up and running the pool to ensure you receive your earnings.

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What Cryptos Can You Stake?

A few years back, there were limited options on platforms that offered staking. However, as the concept of decentralized finance (DeFi) continues to grow rapidly, more projects are embracing the PoS consensus mechanism.

Further, cryptocurrency exchanges are now actively providing users with staking products where they can lock their assets directly on the exchange without involving the respective blockchain.

Some of the five best cryptocurrencies to stake include:

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Ethereum

Following the Ethereum Merge that helped Ethereum move from a PoW protocol to PoS, you can stake ETH tokens and contribute to the validation of transactions. As one of the most popular blockchains among developers, Ethereum enjoys high activity, which translates to good returns for the validators.

To become a validator, you need to stake 32 ETH. The rewards may vary, but your staked tokens may have a return of 5% to 7% annually.

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BitDAO

Decentralized Autonomous Organizations (DAOs) are expected to be big in the crypto space as the DeFi movement ranges on. One project that stands out in this niche is BitDAO which is powered by its native token, BIT.

By staking BIT, you not only join the platform in shaping the future of DeFi, but you’ll also earn great returns, as high as 15% per annum.

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Tether (USDT)

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Stablecoins are designed to cushion crypto investors from the volatility of the markets. Due to their fairly stable nature, stablecoins provide a safe and dependable avenue for staking. One of the best stablecoins to stake is Tether (USDT) which enjoys a high trading volume across many exchanges.

There’s also a large number of crypto platforms providing USDT staking, which means withdrawing it is instant and easy. However, the returns on USDT staking are lower compared to more volatile cryptocurrencies. On average, you could earn 3.5% interest annually.

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Polkadot (DOT)

Polkadot is strategically positioning itself as a force to reckon with in the Web 3.0 movement. 

Designed to provide interoperability between blockchains, Polkadot has a vibrant ecosystem. By staking its native token, DOT, you’ll get to enjoy great rewards as your token appreciates in value.

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Polygon (MATIC)

Another great cryptocurrency to stake is MATIC which is the native token for the Polygon network. As a layer 2 (L2) project, Polygon is designed to help scale Ethereum. L2 scaling solutions have a bright future in crypto as they help tackle the perennial challenges of high gas speed and congestion on the Ethereum blockchain.

You can opt to become a validator or delegate your staked MATIC tokens to earn rewards. The annual interest of staking MATIC can go as high as 20% on some platforms.

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Is Crypto Staking Profitable?

While staking your tokens may make you some profit, it’s not a get-rich-quick strategy to gain from your crypto assets. Depending on various factors, such as the duration of staking and annual interest offered by staking platforms, you’ll need the patience to get good returns on your investment.

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Similar to earning dividends from holding a company’s shares, staking is a viable way to earn passive income. However, there are various parameters that you need to consider before settling on specific crypto-staking projects. They include:

• The size of the validator block reward.
• Amount of total supply locked.
• Real-world utility of the project.
• Fundamental and technical aspects.
• Size of the staking pool.

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Additionally, you need to understand the risks associated with staking, such as the loss in value in case the price of that token depreciates due to market conditions or other external factors.

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How To Start Start Staking Crypto?

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Crypto staking is an easy and straightforward process. The following are the steps you need to follow to get started:

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Step 1: Choose the Crypto to stake

If you already own some crypto assets, you can research further whether the projects allow staking. However, if you’ve identified the Proof of Stake blockchain you would want to engage, then you need to acquire its tokens from a cryptocurrency exchange.

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Step 2: Terms of Staking

Once you’ve identified the crypto to stake, you’ll need to familiarize yourself with the staking terms and conditions. For example, find out the minimum amount of crypto you need to stake and the annual interest rate payable on the staked assets, among other things.

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Step 3: Download the Necessary Wallet

Crypto wallets are crucial in staking. You’ll need to download one that’s compatible with the crypto you wish to stake. You can link to the recommended wallet by the respective staking platform.

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Step 4: Stake Crypto

Once your wallet is ready, you’ll need to send the tokens to it and interact with the staking interface of the project you would want to stake in.

‍Note: If you opt to stake in a crypto exchange such as Binance, the platform will handle the process in their backend, and all you need is to have the tokens in your online exchange wallet. You can redeem your assets at any time.

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Key Takeaways

Staking is a great way to grow your crypto asset portfolio. It provides an energy-efficient and easy approach to interacting with crypto. Depending on the platform, you can earn a decent passive income from staking.

As the crypto space continues to evolve and embrace Web 3, more projects will continue to join the space and provide you with a wide range of cryptocurrencies to stake. Indeed, token value appreciation is a good strategy to invest in cryptocurrencies, but staking provides a great alternative to grow your crypto holdings rather than let tokens lie idle in a wallet.

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