Fundamentals of Crypto Staking

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By Connor
Estimated reading: 6mins

So you are a cryptocurrency and blockchain enthusiast but…

You don’t like using Proof-of-Work Blockchains because they’re essentially just using a ‘Proof-of-Waste’ consensus mechanism. They require unnecessarily high amounts of energy to mine new blocks and the miners sell the new tokens to dump the price anyway. 

You also want to earn yield on your crypto, but you have to give away your keys to do so.

If only there could be another way…there is:

Proof-of-Stake Networks

Proof-of-Stake networks eliminate the negative externality of electricity consumption. Instead of using miners, PoS networks use Validators to verify transactions and create new blocks. 

Validators within the protocol can also be referred to as the ‘Staker’. They put up their tokens as a stake to earn the inflation of the protocol. 

Although being a validator is one way to be a staker, there are many different ways to stake your crypto. 

What is Staking in Cryptocurrency?

Crypto staking takes many different forms, but essentially it is the process of earning yield on your digital assets. You can think of staking, not to be confused with yield farming, as the DeFi equivalent to earning interest via stock dividends. 

Staking is an attractive feature to many investors because it allows long term holders the ability to do more than just hold and hope for price appreciation.

How Does Crypto Staking Work?

Crypto staking can work using a variety of different methods. You can think of them as either validating a blockchain or participating in a smart contract. 

PulseChain, the fork of Ethereum, operates in a similar fashion as a Delegated-Proof-of-Stake Blockchain. Validators are rewarded in the native token PLS for verifying transactions and signing new blocks. 

Ethereum 2.0 plans to pay validators the inflation of the native currency. Essentially, validators are rewarded ETH for upholding the integrity of the blockchain. Unfortunately, ETH 2.0 has high staking requirements at 32 ETH per validator. So unless you have 32 ETH, you must give your keys to a common pool with a middleman, the complete opposite of why crypto was invented. 

Hex Staking works by giving the 3.69% annual inflation rate to the users who time-lock their HEX tokens within the smart contact. Hex has the advantage of earning trustless yield while holding your own keys. 

LOAN Token Staking allows users access to a portion of the one time borrowing and redemption fees. Stakers are rewarded with PLS tokens and USDL. LOAN token staking is a great example of staking which comes from a smart contract, not from validating a blockchain. 

USDL Stability Pool – although not officially called staking, the USDL stability pool can be thought of as a high interest savings account. The Stability Pool offers a great opportunity to earn PLS and LOAN tokens from a secure algorithmic stablecoin within the Liquid Loan protocol. Deposits into the pool do not have a time-lock or any counterparty risk. This is a great place to park your dry powder as you watch the crypto prices. 

Common Misconceptions About Crypto Staking

One of the most common misconceptions about cryptocurrency staking is that a protocol must be a proof-of-stake blockchain in order to have staking rewards.

This may be true for a protocol such as Hex.com for example, who pays rewards in the form of Hex inflation to those who lock up their Hex.

However, in a protocol such as Liquid Loans, LOAN tokens stakers are paid rewards from the one time borrowing and redemption fees.

Another misconception is that staking crypto is risky. Staking your digital assets only adds risk when you either hand over your keys to a counterparty such as a centralized exchange or you run the code of a smart contract with admin keys.

Ethereum 2.0 staking, for example, requires an individual to hand over the keys to his ETH to both a centralized exchange as well as an ETH validator.

By doing this, you run the risk of never seeing your money again, as we have seen with BlockFi, Celsius, and Voyager among others.

The good news is, if you stake your crypto in a protocol or on a blockchain which is trustless and you know how the yield is generated, then the only risk you incur is standard crypto price volatility.

The last common misconception about staking is that the yield pay outs are in the form of USD or other fiat currencies. This should not be the case. APYs should be calculated in token value.

Obviously, if your tokens you receive depreciate then you will not make the advertised APY number. Conversely, if the tokens appreciate, you will outperform the advertised APYs.

Thinking that the yield is paid out in USD can trip up new DeFi investors, leading them to call the protocols names such as Pyramid or Ponzi Scheme.

The Safest Ways to Stake

With so many scams, rugpulls, and just flat out bad projects out there, it can be hard to know which tokens to stake and how to stake them. Keep these principles in mind:

  • Never give up your keys to earn yield. There are plenty of yield generation methods in DeFi without the need for counterparty risks and middlemen. Choose projects which allow you to stake directly from your own crypto wallet. 
  • Make sure the projects do not have admin keys. If you are signing a transaction from your wallet, make sure the project has multiple crypto audits and does not have admin keys. If a project does have admin keys, you are running the risks of having your digital assets stolen. 
  • Do Not Stake On An Exchange. When you stake on an exchange, you are handing over your coins to another person who does not have your best interest in mind. Instead, take the extra time to learn how to do it, you will thank yourself later. 
  • Stake tokens with Product Market Fit. If you are staking a particular token, it is likely that you are going to be holding it long term. Projects with product market fit have a higher likelihood of being successful than those which do not.

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Disclaimer:Please note that nothing on this website constitutes financial advice. Whilst every effort has been made to ensure that the information provided on this website is accurate, individuals must not rely on this information to make a financial or investment decision. Before making any decision, we strongly recommend you consult a qualified professional who should take into account your specific investment objectives, financial situation and individual needs.

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Connor

Connor is a US-based digital marketer and writer. He has a diverse military and academic background, but developed a passion over the years for blockchain and DeFi because of their potential to provide censorship resistance and financial freedom. Connor is dedicated to educating and inspiring others in the space, and is an active member and investor in the Ethereum, Hex, and PulseChain communities.

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