This article will give you a basic overview of crypto staking, how staking comes into the crypto world and how it can benefit the users with rewards. After that, we will also go through some topics like why exchanges reward you for staking, which exchanges and coins support staking, and how much reward you can earn by staking. In the end, we will discuss the risks involved in staking.
Table of contents
Summary(TL;DR)
- Proof of Work is a traditional consensus protocol where miners verify the transactions and create new blocks. This process involves solving simple but computational heavy math puzzles.
- Proof of Stake protocol allows validator nodes to agree together on whether the transactions are valid or not. To ensure the honesty of participating nodes, they need to stake coins as collateral. In return, all the participating nodes receive rewards.
- Users who don’t have technical knowledge can also participate in the staking process through third-party wallets or exchanges that offer staking services.
- Some exchanges run their nodes as validators and allow users to stake their coins on their exchange. The reward generated by validator nodes is distributed among all the stakers after cutting commission from it.
- Staking rewards can be varied with exchange, project, network, staking period, node’s uptime, exchange’s commission, staked amount, etc.
- Risk factors like node’s uptime, node’s performance, market volatility, and liquidity need to be assessed before staking.
Proof-of-Work (PoW)
Bitcoin blockchain uses a proof-of-work (PoW) consensus protocol where few people verify the 1 MB worth of transactions and create a new block through an energy-intensive process of solving highly computational intensive math puzzles. This process is known as mining. People who do the job of mining known as miners. The mining process requires very powerful resources. Miners are rewarded with a specific number of coins for doing the job of verification. The rewards for bitcoin mining are reduced by half every four years.
In 2009, when bitcoin was first mined, mining would reward you 50BTC.
In 2012, it was 25 BTC.
In 2016, it was 12.5 BTC.
In 2020, it was 6.25 BTC.
As we discussed PoW consensus protocol, the transaction validation process is carried out by miners that use specialized computer hardware to form a block of transactions. However, this is a highly energy-intensive process, which has led to the creation of various alternatives – like Proof of Stake (PoS).
Proof of Stake (PoS) – Staking
Cryptocurrencies that support PoS consensus protocol also need to validate transactions. In PoS, the process is entirely different. PoS blockchains use a network of validator nodes that work together to agree on the sequencing of the transactions. These all nodes are responsible for building blocks of transactions. To ensure the honesty of participating nodes, they need to stake coins as collateral.
PoS doesn’t require high-power computing resources. Instead, its mining capability depends on the number of coins staked by the validator node. The more coins you staked, the higher chance to get selected to create a new block. On successful creation of the block, the validator node receives a reward. If a validator node wrongly signs transactions, it can lose all the staked coins.
Staking in Exchange Node
As we discussed earlier, people who want to validate new blocks lock up their coins and get rewards. But What if I say you don’t need to do the validators’ job, but still you can be rewarded? Yes, this is possible.
If you are a holder of PoS coins, you can participate in the staking process through third-party wallets or exchanges that offer staking services. You don’t need to run your node for verification or coin minting purposes. This is mainly for those who don’t have the technical knowledge or internet support to carry out the process. In short, by just holding coins in the wallet, you can get rewards. Only some cryptocurrencies support staking, which are built on top of PoS protocol.
- When the minimum balance is met, an exchange node deposits that amount of cryptocurrency into the network as a stake (similar to a security deposit).
- The chances of the exchange node being chosen to forge the next block is proportional to the size of a stake done by nodes.
- Suppose the node successfully creates a new block. In that case, the validator node receives a reward and distributes it among all the stakers who staked in this node.
- Validators would lose part of their stake or be charged a penalty if they double-sign.
Here, we discussed that by staking coins on some exchanges, you could get rewards. But still, some questions are unanswered-
- Why do exchanges reward us?
- How much is the staking reward?
- Which exchanges and coins support staking?
We will go through all these questions one by one.
Exchanges reward users for staking – Why?
Staking involves validators who lock up their coins to get selected as a validator by the protocol to create a block. Usually, participants who stake more significant amounts have a higher chance of being chosen as the next block validator.
Some exchanges run their node as a validator and allow the users to stake their coins on the exchange. This will help exchange to stake more coins and increase the chances of being selected as a next block validator. The more blocks verified by an exchange node, the more rewards it will receive. The exchange took some commission from the rewards, and the rest rewards circulated among all the stakers. This is how both users and exchanges benefit from staking.
Staking rewards calculation factors
Every blockchain network uses a different way to calculate staking rewards.
For example, if you are staking 1000 Tron and the reward is 10% per year. Hence, at the end of the year, you will receive 100 Tron as a reward.
Staking reward calculation involves factors like-
- In which project are you staking your coins?
- Staking period – When you stake your coins, they are set to a locked state. During this time, you can’t trade those locked coins. While some currencies do not require you to lock your coins, they periodically check and capture the snapshot of the coin balance and give rewards based on it.
- Exchange’s commission
- How long is the exchange’s validator node active? The validator node does the more validation jobs; the more reward will be received by the exchange node and distributed to stakers.
- How many total coins are staked on an exchange? This is also an important factor as a reward will be distributed among all the stakers based on their stake.
- For some networks, staking reward is a fixed percentage.
Exchanges support staking
Many crypto exchanges offer staking services in exchange for a service fee or free. They carry out the staking in their network wallet and transfer coins (rewards) to your account.
List of top 6 crypto staking exchanges-
Which Cryptocurrencies supports Staking?
Not all coins allow staking. Only coins built on the top of blockchain that follow Proof of Stake protocol allow staking.
List of few cryptocurrencies that allow staking-
All the above-discussed topics introduced you to the basic idea about staking. But we didn’t discuss whether it is safe or risky. So, let’s discuss this now.
Risks involved in staking
We used the word reward a lot of times. Means, does staking always help to earn passive income and isn’t risky at all? Yes, if you do proper research and assess all the risk factors.
As we discussed, some exchanges allow users just to hold their coins in their wallets and earn rewards. But there is also a fear of losing assets if you lose your private key.
Liquidity and volatility is also considered as an important factor for risk assessment. We can’t control the behavior of the market. The price can go up and down in seconds. In some scenarios, when our coins are locked for a particular period, we can’t trade them even if the price goes down or up. There is a chance that coins will lose their liquidity and result in a lower price. For example, you staked 1000 ATOM for a year and will be rewarded 14% at the end of the year. The price of ATOM was $ 10 when you staked. So the total staked amount was $ 10000. After one year, you get a reward of 140 ATOM, but the price dropped to $ 5. So total value after 1 year is 1140 ATOM * $ 5 = $ 5700. So you are in loss ($ 10000 – $ 5700 = $ 4300). Hence, liquidity and volatility is an important factor for risk assessment.
Exchange nodes need to have 100% uptime to earn maximum staking reward. If the validator node misbehaves, a node will be charged a penalty, and you could incur penalties that will affect your overall staking returns. In some cases, nodes can lose a completely staked amount. Hence, stakers can lose their staked amount and also don’t get any reward. While staking into a particular exchange, make sure to analyze its node’s past performance.
Staking Crypto: Conclusion
As we went through some topics related to crypto staking and staking reward. Here are the few points that we can conclude –
- Traditional Proof of Work protocol required high powerful resources to create new blocks, while Proof of Stake protocol doesn’t involve high resources. Instead, it requires nodes to stake their coins for security purposes.
- Users can also participate in the staking process without involving in the block creation procedure and earn rewards. This is possible using third-party wallets or exchanges that offer staking services.
- Staking rewards depend on many factors like exchange, project, network, staking period, node’s uptime, exchange’s commission, staked amount, etc.
- Staking also involves risk. Hence, proper research and risk assessment should be done before starting with staking.
Frequently Asked Questions
What is Proof-of-Stake?
Proof-of-stake consensus protocol enables users to stake (lock) coins in special contracts so they may be selected to create a new block.
By doing this, these users are rewarded with new coins.
What is staking crypto?
Crypto staking is a mechanism used by the Proof of Stake protocol to create a new block. Staking requires users to lock their coins. A node (having more staked coins) is selected to create a new block.
Many exchanges provide staking services so that users can earn rewards for holding coins on such exchanges. In this case, the exchange runs its node as a validator node, and all the users’ coins are staked on this node. Validator node earns a reward for creating new blocks or updating the ledger. Further, this reward is distributed among all the users who staked on this node.
What are staking rewards?
By staking your cryptocurrency, you can get the opportunity to be selected as a validator node and become eligible to receive new coins.
Do all staking coins work similarly?
No, they may vary based on how long they require users to stake their coins and the specific rewards conditions.
Is staking safe or risky?
Like any other investment strategy, staking also involves risk. So before starting with staking, research and assessment of some risk factors like a project, validator node, exchange, market volatility, and liquidity is a must.
