What is Crypto Staking?
Staking is the act of lending (locking or holding) cryptocurrencies in a wallet to participate in maintaining the operations of a proof-of-stake (PoS) based blockchain system. Staking stands for storing cryptocurrencies by blocking coins in your wallet for a fixed period of time for the sake of earning some interest. Commission you will be rewarded with depends on how much and how long you are staking. The longer the length of time and the bigger the amount, the higher your returns!
How does it all work?
At a very basic level, “staking” means locking your crypto assets in a proof-of-stake blockchain for a certain period of time. These locked assets are used to achieve consensus, which is required to secure the network and ensure the validity of every new transaction to be written to the blockchain. Those who stake their coins in a PoS blockchain are usually called “validators.” For locking their assets and providing services to the blockchain, validators are rewarded with new coins from the network.
For a blockchain to perform efficiently, validators are required to provide stable and secure services. Blockchains often enforce this by slashing a validator’s stake for dishonest or malicious behavior. To run a successful validator node, an agent needs to be committed to a selected blockchain and run a secure and continuously available infrastructure. Some blockchains have a significant lockup period (during which validators cannot retrieve their coins) as well as certain minimum thresholds for staking. To avoid dealing with all these requirements, many owners of crypto assets prefer to delegate their coins to a validator running a staking pool. Some blockchains (like Tezos) have a built-in mechanism that allows anyone who does not want to be a validator to delegate their coins to a validator on the network. This validator then performs all the work and shares the reward with their delegators.
Every PoS blockchain has a specific set of rules for its validators. These rules define the technical and financial requirements to become a validator (for example, a minimum stake size), the algorithms of selecting validators to perform an actual validating task and the principles of the reward distribution among the validators. The rewards are usually calculated based on the stake size, the actual participation in the consensus mechanisms and the total amount of coins at stake.
State of affairs
As of July 2020, the capitalization of the staking market is estimated at $35.8B (for comparison, the overall crypto market cap is around $270B). The number of assets to stake has increased significantly over the last year with the growing popularity of PoS blockchains. To date, staking data hub Staking Rewards has listed 111 assets, with annual rewards ranging from 2 to 348%. The average return on staking has increased from 10% to 15% within the past year.
By market cap, the biggest cryptocurrencies in staking are Tezos and EOS, closely followed by Algorand and ATOM (Cosmos). The staking market is quite fluid, however, as new PoS projects appear and quite a few big entrants are expected in 2020. The highly anticipated launch of Ethereum 2 will likely change market dynamics significantly, as it will become the largest cryptocurrency available for staking (with its $43B market capitalization).
With many assets and service providers to choose from, there are several things to keep in mind when deciding what and how to start staking.
Obviously, the choice of which coin to stake is paramount. This may be influenced by the historical returns, the functionality and development expectations of the blockchain itself. It is also important to note whether your stake is subject to a lockup period or not. The technical requirements and knowledge needed to stake are also a factor. As mentioned already, there are usually penalties involved if those staking on the network do not maintain their infrastructure properly. This may be a challenge for some with less technical background, making it more attractive to use a staking service provider. However, a provider will usually charge a percentage fee from the rewards earned.
With a number of big PoS projects expected to go live in 2020 and 2021, the staking market would seem to have strong potential for growth. Ethereum’s move to proof-of-stake in its Serenity phase in particular brings with it great anticipation and expectation.
Across the broader blockchain ecosystem, current staking rates (the percentage of total coins engaged in staking) vary. On the most popular PoS blockchains such as Tezos and Cosmos, they approach 80%. At the same time, the participation rates for some smaller networks can be as low as 10-20%. How these rates will affect market volumes and returns is something to keep an eye on.
The development of the staking market may also be affected by the dynamics on the lending/borrowing market. Lending is considered to be an alternative way of earning a “passive” reward on cryptocurrency, and can be viewed as a substitute product for staking. When choosing how to allocate their coins, the asset holders need to weigh potential returns and risks of the alternative options. Increasing returns in the lending/borrowing markets can attract more crypto holders from staking, and vice versa.
All things considered, staking on blockchains remains a dynamic part of the wider crypto and blockchain space.
Why is Crypto Staking becoming popular?
Since 2020, the popularity of DeFi is leading to more people considering DeFi staking. Factors leading to the rise of crypto staking are:
Growth of DeFi
The popularity of decentralized finance has allowed users to invest their funds without the need for centralized intermediaries and earn lucrative interest on it. In De-Fi lending, lenders deposit fiat or issue a loan in return for interest through a distributed system.
Platforms like Uniswap and Compound follow DeFi protocol like smart contracts to automate transactions between cryptocurrency tokens on the Ethereum blockchain.
Rise of Proof-of-Stake
The growing cryptocurrency space cannot operate with Proof-of-work based protocols due to lack of flexibility, the looming overhead costs and slow speed. PoW blockchains were not designed to scale according to the mass adoption of cryptocurrency networks. Hence, networks like Ethereum are moving to stake PoS protocols from blockchain’s mining with specialized equipment.
Long term gains
While most investors were only interested in short term profits a couple of years ago, today people are investing in cryptocurrencies for the long haul. Holding on to their currencies over a longer period allows users to stake and earn passive income.
Considering the ongoing Bitcoin bull run, most investors prefer to HODL rather than liquidate their asset holdings, allowing them an opportunity to earn interest via staking.
What can I stake?
Investors who wish to stake can choose from tons of options to earn money from their idle crypto assets. Any cryptocurrency that can be positioned as collateral through a smart contract can be staked.
Staking is economically beneficial and scalable than PoW-based mining. In the current bull run as the interest around cryptocurrencies is booming, staking is gaining momentum.
As DeFi staking continues to grow, the popularity of both decentralized and centralized staking seems to be at an all-time high. Users need to tread carefully as some platforms promise too-good-to-believe returns for crypto depositors. Thorough research is recommended before investing.
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