Staking crypto to earn more of it is one way to boost your returns. But what is staking? This guide covers what staking is, how it works, and the potential risks to watch out for.
To understand staking, let’s look at how blockchain transactions are processed. With traditional currency transactions you usually have banks and financial institutions working behind the scenes to do that. But with decentralized blockchains, you need the network to come together to reach a consensus about who owns what. People who do this for the blockchain are basically providing a service, and they can earn coins for doing it.
Most blockchains reach consensus one of two ways:
With PoW blockchains, like bitcoin, miners compete to solve complex cryptographic puzzles. The first miner to solve each puzzle validates a new block of transactions on the blockchain and earns crypto rewards in the process.
With PoS blockchains, there’s stakers instead of miners. Staking is a less intensive process: you put up your own crypto (stake it) to verify other people’s crypto transactions. Anyone can do it and you don’t need expensive mining equipment. Multiple stakers put up their crypto at once, but it’s luck of the draw as to who gets selected to validate the transaction and earn crypto rewards. That said, having a larger stake does increase your chances.
Compared to mining, staking uses a lot less electricity and usually processes transactions faster. You usually earn lower rewards from staking compared to mining, because it’s easier to turn a profit. Staking is a lot less capital intensive than mining: with mining you need to fork out for expensive mining equipment and electricity, but with staking you only need to lock up your crypto for a set amount of time.
There are a number of blockchains where you can stake crypto for rewards, including: Cardano, Cosmos, Avalanche, Polkadot, Tezos, and Kava, to name a few.
There are two ways to stake crypto:
Staking directly as a validator can be lucrative, but it’s out of reach for most people as there are a few major barriers to entry. First, you usually need a lot of crypto collateral to become a validator and start staking. For example, with Ethereum you’d need to stake at least 32 ethers (around $50,000 today), and with Avalanche, you’d need at least 2,000 AVAX (also around $50,000 right now).
Second, you need a good degree of technical knowledge about a blockchain protocol to be able to stake directly. Let’s look at Ethereum again: its website explains how you’d need to spend time reading documentation and talking with development teams to learn how to use the staking software. That way, you’re in a better position to fix any issues that come up while you’re validating the Ethereum network. You also need your staking software to run 24 hours a day, every day – or face potentially costly penalties.
Staking indirectly via staking pools is much easier because it doesn’t have the same barriers to entry as becoming a validator. There are much lower staking requirements, it’s a simple process, and you don’t need to constantly run any software in the background.
Staking pools are a bit like mutual funds, where investors pool their resources together in exchange for a proportionate slice of the pie. The person or entity running the pool (the “pool operator”) will effectively be the validator and handle all the leg work.
Just like a mutual fund manager, the pool operator takes a fee for managing the pool. That fee can cut into your bottom line, but it’s the price you pay for convenience and simplicity. All you need to do is find the right staking pool and deposit your stake according to the terms of the pool.
Most major crypto exchanges, including platforms like Change, offer staking pools for a number of blockchains. You can also stake crypto through specific apps depending on the blockchain. When joining a pool, it’s usually better to be a small fish in a big sea than a big fish in a small pond. That's because larger pools have more power as validators, so they’re likely to pull in more rewards.
Staking can be a great way to earn passive crypto income, but here are a few risks to be aware of before you jump in:
This guide was produced by Finimize in partnership with Change Invest.
Disclaimer: Stocks is a derivative product offered by Change Securities B.V. that replicates the performance of your favourite companies’ shares - full or fractional.*