Dubai: If you’ve been looking for a way to earn returns on your money that exceed the 1 per cent you would likely earn in a savings account, crypto exchanges worldwide have been offering profits of 4 per cent to 5 per cent when you lock your cryptocurrencies for a set period.
The process, which is known as ‘staking’, enables you to earn a reward for agreeing to the use of your existing cryptocurrency holdings for the purpose of guaranteeing the accuracy of transactions on an underlying blockchain network. Let’s delve deeper and clearly understand what this means.
The access is shared between its users and any information shared is transparent, immediate, and ‘immutable’. Immutable means anything that blockchain records is there for good and cannot be modified or tampered with – even by an administrator.
“The reason your cryptocurrency holdings earn rewards while staked is because the blockchain puts it to work. However, keep in mind that staking is not without risk,” explained Brian Deshell, a UAE-based cryptocurrency trader and analyst.
“The risk is primarily because you'll earn rewards in the form of cryptocurrency, which is a volatile asset. So, if you do liquidate your holdings later, the extreme price fluctuation potentially affects your returns. Also, you must lock up your crypto for a set period, which is again risky.”
How does crypto ‘staking’ work?
Before understanding how the process works, you need to first know that not all cryptocurrencies allow 'staking'. Currently the crypto options that allow you do so include Ethereum 2.0, Shiba Inu, Tezos, Cosmos, Solana, and Cardano.
Cryptocurrencies that allow staking use what is called a ‘consensus mechanism’ known as ‘Proof of Stake’, as opposed to the process used by cryptocurrencies like Bitcoin and Ethereum 1.0, known as ‘Proof of Work’.
But why do only some cryptocurrencies have ‘staking’? According to global crypto exchange Coinbase, “for a relatively simple blockchain like Bitcoin’s (which functions a lot like a bank’s ledger, tracking incoming and outgoing transactions) ‘Proof of Work’ is a scalable solution.”
“But for something more complex like Ethereum — which has a huge variety of applications — ‘Proof of Work’ can cause bottlenecks when there’s too much activity. As a result, transaction times can be longer, and fees can be higher.”
What are the perks to crypto ‘staking’?
“’Staking’ can be a way to grow your portfolio of cryptocurrency investments by putting to work the digital assets you plan to hold onto and not immediately sell,” noted Brody Dunn, an investment manager at a UAE-based asset advisory firm, while also cautioning on the risks involved in doing so.
“After factoring in the risks, ‘staking’ currencies can be considered as means to earning passive crypto income, and like the corporate world, it can also be seen as the crypto industry's equivalent of earning interest or dividends while holding onto your corresponding investments.”
Aside from generating extra income, ‘staking’ helps prevent fraud and errors in this process. Users proposing a new transaction on the blockchain put some of their own cryptocurrency on the line, which incentivises them to play by the rules.
Another perk of ‘staking’ can be arrived at when looking at it from the perspective of energy consumption, ‘staking’ is a more efficient way of running a crypto network than the mining process used by Bitcoin and some others.
’Staking’ can be a way to grow your portfolio of cryptocurrency investments by putting to work the digital assets you plan to hold onto and not immediately sell
How can you ‘stake’ your cryptocurrencies?
“The simplest way to ‘stake’ your cryptocurrencies is to use an online service to stake your tokens for you. Some popular cryptocurrency exchanges offer staking in exchange for a commission, and they allow you to use fiat currency to purchase crypto,” explained Dunn.
“In return for using its service, the exchange charges some commission. To stake crypto through an exchange, open an account with your preferred platform. Sign up on an exchange platform for an account by providing your name, email address, and password.” But isn’t there a minimum needed?
Different blockchains have unique requirements for their staking programs. While some protocols like Cosmos have no minimum requirements for staking, others require a set minimum number of coins so that you get to stake. Ethereum 2.0 requires a minimum investment of 32 tokens for stakes.
“To ‘stake’ crypto, you can also join other investors who pool resources to raise chances of earning rewards. In a ‘staking’ pool, rewards are given to members in tandem with their contributions. It’s great if you don’t have enough coins to stake on your own or if you want to spread out risks,” added Dunn.
The assurance you can fall back on is once you ‘stake’ your crypto, you’ll receive the return as per a pre-set deadline. With the profits, you can then hold as an investment, put up for staking, or trade for cash and other cryptocurrencies, hence growing your crypto investment holdings further.
“When you 'stake' cryptocurrency, you help maintain the security and eﬃciency of that coin’s blockchain network. Also, when you lock up your coins for a speciﬁc period, you help encourage others to invest, thus further increasing or stabilising the coin’s price,” Deshell further noted.
“However, it is advisable to only invest in crypto ‘staking’ once you have a good grasp of blockchain technology and cryptocurrencies. You should research the market before deciding which coins to stake to maximise your returns.”
And why is crypto ‘staking’ relevant today? With regulators worldwide continuing to tighten their reigns on crypto following the recent collapse of FTX, rumours are floating that the next target could be the practice of cryptocurrency ‘staking’. If these unconfirmed reports materialise, brace for further risk when investing your money in this field.