If you’ve been consuming content related to crypto, odds are you’ve come across the term “staking” a few times. No worries if you haven’t. And no worries if you have and don’t understand what it is. That’s what we’re here for. By the end of this article, you will know what staking in crypto is, its pros and cons, how you can do it, and most importantly, if you should do it.
So, let’s begin!
What Is Staking in Crypto?
Staking is a strategy to earn passive income on your crypto holdings. Like everything else in crypto, this concept can be simple or complicated, depending on how deep you want to delve into it.
For starters, every blockchain uses a certain consensus mechanism to validate and record transactions on the blockchain. One such consensus mechanism is proof-of-stake (PoS), used by Tezos, Cosmos, and very recently and famously, Ethereum with its Ethereum 2.0 upgrade.
In the PoS consensus mechanism, people wanting to become validators to validate transactions on the blockchain are required to stake a certain amount of cryptos. In return for staking (locking in) cryptos and validating transactions, the network offers rewards to the individuals. This process is called staking.
Now that we understand what crypto staking is, let’s see how it works.
How Does Staking Work?
In PoS, validators are selected randomly by the protocol. The more coins you stake, the higher your chances of being selected as the validator are. And if you get chosen as the validator, you receive the block rewards for that particular block, also known as staking rewards.
Does this mean that whoever stakes the most coins automatically becomes the validator? Not exactly. It does increase your chances, but the protocol also has an element of randomness that works to ensure that the system remains decentralized. So even if you haven’t staked the most coins in the network, worry not; the system doesn’t actively favor anyone.
Pros and Cons of Staking Crypto
As many amazing benefits as there are to staking, like any other good thing, it also has its negatives. Let’s take a look at both sides of the coin.
1. Earn interest
Staking for an individual could sometimes be a complicated process. They need the ability/time, and resources to validate transactions; therefore, many crypto and DeFi platforms offer individuals to stake on their behalf.
Since staking rewards are highly lucrative, these platforms can offer you high yields on your contribution. This helps investors build a passive income stream by just locking away their funds for a said period.
Even Mudrex uses staking as one of the strategies to offer interest of up to 10% on Vault.
2. Energy efficient
The proof-of-stake consensus mechanism is highly energy efficient when compared to proof-of-work. The recent ‘Merge’ that Ethereum underwent, where it shifted from proof-of-work to proof-of-stake, reduced its carbon footprint by 99.95%. To put that in context, that’s essentially the power a small country would consume.
3. Faster and cheaper transactions
Transactions on a proof-of-stake system are faster and cheaper. For comparison, one transaction on the Bitcoin network takes 1-1.5 hours to be validated, while a transaction on the Tezos blockchain takes roughly one minute.
4. Potentially earning voting rights
By staking your coins, you could potentially be able to vote on changes and upgrades in the blockchain, thus making your opinion heard.
1. Lock-in period on holdings
One drawback of staking is that your staked crypto will be locked in for a specified period of time, during which they are illiquid. So you will not be able to trade your coins during this period.
2. Potential compromise of security
Proof-of-work has had well over a decade to prove its legitimacy regarding security. It is unquestionably secure. Proof-of-stake, on the other hand, hasn’t been around for long. Many theorize that PoS sacrifices security for speed. PoW is far ahead in terms of security with its high hash rate creating a highly encrypted system that is almost incorruptible. On the other hand, an individual or group with enough resources could take over a PoS network, at least in theory.
3. Increased centralization
Blockchain technology was invented with the principle of decentralization at its core. But PoS could be comparatively centralized. The ones with the money could just stake more coins and take over control of the network.
How to Stake Crypto
If the pros outweigh the cons for you, you probably want to begin staking ASAP! But how do you do it? There are two ways to go about it.
1. Set up your node
This method requires you to set up your node (computer) and run it yourself. This computer has to run 24/7, validating transactions constantly. Now, this approach requires a fair amount of expertise and can be risky, considering that any downtime may result in your stakes getting slashed. For the uninitiated, slashing of stakes is when the network confiscates a portion of your stake.
In this approach, you become a validator and validate transactions on the network. But before even getting to validating, you must ensure you get selected as a validator, which is equally difficult as validating unless you have a considerable amount of cryptos.
2. Stake through a platform
Many crypto platforms, including Mudrex, help you stake cryptos without validating transactions. They allow you to put your cryptos in a staking pool and stake your holdings on the network for a chance to validate the transactions. They do the hard work of validating transactions, and the rewards earned are distributed to you.
This is a much easier approach as it doesn’t require you to have your own hardware or run it 24/7.
How Are Staking Rewards Calculated?
There’s no standard way to calculate staking rewards. It varies from blockchain to blockchain. Some adjust the rewards on a block-by-block basis, based on multiple factors, including:
- The number of coins in the network
- The number of coins a validator is staking and, thereby, contributing to the network
- For how long has the validator staked their coins
- Inflation rate
Other networks might prefer to distribute rewards at a fixed percentage, depending on the staked amount. With this model, the validators can calculate the exact amount they’ll receive as staking rewards.
The model of reward calculation is key to people joining staking pools. While some may prefer a predictable reward, others may want to take a chance at hitting the jackpot with the block reward.
When to Stake Cryptocurrency, and When Not To
There are two possibilities– you either own crypto and want to stake it, or you don’t, but you still want to. Let’s go over the first case first.
If you hold some crypto and don’t plan on trading it in the near future, staking is a great option. Of course, a prerequisite is that your cryptocurrency must be eligible for staking.
Staking through an exchange doesn’t require any effort on your part, and it earns you a parallel stream of income.
Onto the second case. If you don’t hold crypto but think there are enough returns to be made, you can buy cryptocurrencies with a staking mechanism. But before you do, don’t forget to DYOR- Do Your Own Research!
Examples of Cryptocurrencies You Can Stake
Here is the list of cryptocurrencies that you can stake –
1. Ethereum (ETH)
ETH, which exists on the Ethereum blockchain, is one of the hottest cryptocurrencies on the market. And its growth potential has only gone up since the Merge.
2. Cardano (ADA)
Cardano, much like Ethereum, is a smart-contract platform. The difference is that Cardano is multi-layered, with layer 1 used for ADA transactions and layer 2 used for developing decentralized apps or dApps.
3. Tezos (XTZ)
Tezos, like the others on this list, is a decentralized blockchain with a native coin that goes by the symbol of XTZ. It, too, can be staked on certain other platforms and networks.
4. Cosmos (ATOM)
The Cosmos team hopes to bring interoperability to the blockchain world with their network. Essentially, this means that they want different blockchains to be able to transact among themselves. They call Cosmos the internet of blockchains because of this very ambition.
Is Crypto Staking Really Profitable?
Let’s address the elephant in the room. Can you get rich from staking? Realistically, unless you’ve got a huge stash of cryptocurrencies, chances are you aren’t getting rich just from staking. But that doesn’t mean that staking is pointless.
If you’re an investor who believes in investing for the long term and isn’t bothered by short-term movements in the market, staking is a great option for you. It doesn’t require any work on your part apart from staking your assets. The longer you stake them, the higher your potential returns are.
Though there are a few factors to consider before staking –
- How big the block reward is– The higher, the better.
- How high the commission fees are– The lower, the better.
- The size of the staking pool and its track record– Go for one with a history of validating many blocks. This minimizes the risk of slashing.
- The number of coins locked– This influences the liquidity of your coins, so keep that in mind when staking.
Crypto Staking Vs Mining Vs Holding
How are they related to each other? Well, crypto staking and mining are both ways to validate transactions on the blockchain, while crypto staking and holding are investment methods.
1. Staking vs mining
Talking about staking vs mining, staking is faster, cheaper, and offers a high level of scalability, while mining offers an unmatched level of security.
From a miner/validator’s point of view, staking has a lower barrier of entry because it doesn’t require any expensive equipment as mining does. Mining is also highly energy-intensive. Staking can be done through a platform, and even if the validator wants to use their own node, the equipment required for staking is much cheaper.
2. Staking vs holding
When it comes to staking vs holding, staking is a means of earning passive income using the coins you already hold. It can help you build wealth over the long term. The downside is that a portion of your holdings might be locked up in the network for a certain period.
On the other hand, holding crypto doesn’t offer you any additional returns apart from the growth the crypto itself may have. But it does offer more liquidity, allowing you to trade your coins whenever you want to.
There are multiple ways to build wealth in crypto. Staking is one of the options, and it is indeed a very good one. Another option is Mudrex Vault, where you can receive up to 10% interest on your investments. Staking is one of the strategies that the Mudrex Vault uses to give you the promised returns. The only way to choose which path you want to take is by aligning your goals with the possible upsides and downsides of each approach and deciding what works best for you. So do your own research, and happy investing!
1. Can you lose crypto through staking?
Staking by itself only helps you grow your investment. But there are scenarios in which you may lose your staked crypto. For instance, if you’re running your own node, which fails to be functional 24/7, or if you invested in a staking pool that fails to validate transactions, you may have your cryptos slashed. Slashing is when the network confiscates a portion of your staked crypto.
2. Where is the best place to stake?
The best place to stake your crypto would be a network with high block rewards, low commission fees, and a big staking pool with a good track record of validating transactions. You must stake a small portion of your holdings for a short period.
3. Does your crypto grow while staking?
The short answer is yes. The long answer is that staking allows the network to use your crypto for validating transactions and gives you a percentage reward, usually in crypto, in return. So crypto staking can be a reliable way to earn passive income.
4. Is crypto staking taxable?
Well, there isn’t a straight answer here. In India, you do not have to pay taxes on crypto earned through staking unless you sell. You can learn more about crypto tax in our blog.