Seizing the baton from our previous article, we’re going to get into the nitty gritty of cryptocurrency. This time we’re talking about staking and trading: the how’s, the what’s, and the where’s of cryptocurrency and decentralised finance. With many major entrants popping up, we’ll have a look at a small selection of the most prominent cryptocurrencies as they stand today.
Currencies are a tradable representation of value exchange. While most currencies are tied to fiat systems held by governments, cryptocurrencies represent value simply through their exchange. Bitcoin and other cryptocurrencies meet a lot of the complex criteria that allow them to be a medium of exchange (scarcity, tradability, durability, etc.).
The complex activities like mining can create cryptocurrency is such a way to make them difficult to counterfeit and ensure that not everyone can join the game. Sadly, this also makes it especially difficult for people to mine currencies themselves. Despite the innovations that have made mining far easier, there is still a massive gulf in creation capabilities for most people. Proof of work systems are just not viable without a lot of mining hardware.
The alternative to mining is staking.
What is Staking?
Staking is the act of holding money in your cryptocurrency wallet, which allows users to support the security, access, and transmission of a currency. In turn, just by holding coins in the exchange, you can ear rewards. Staking operates on the Proof of Stake framework as opposed to Proof of Work, therefore some types of cryptocurrency do not have the digital infrastructure to support it.
The use of staking has boosted those cryptocurrencies that allow a PoS system. It has also been a major reason why so many cryptocurrencies (those reliant on Proof of Work) have dwindled in numbers. On the other hand, staking has been successful because it rewards participation while being much easier.
The protocol within the blockchain will randomly assign a user to validate other nodes. While this is random, it also depends on the number of coins one has. In short, the more coins a user has the more a system will lean towards picking them to validate other blocks.
Staking has its benefits over mining. For one thing, it is far less resource-intensive. While it doesn’t operate on mining, it is similar in one regard: it helps the blockchain authentication and consensus process. Each block is thus incentivised to add more and grow the chain.
This process makes the whole PoS system scalable and produces high transaction speeds. It is one of the reasons Ethereum is shifting from a PoW system to a PoS after the ETH 2.0 update.
How Staking Rewards Users
The crypto market is growing due to this inventive system and producing more currency flow. The advent of staking has allowed many to make a form of passive income fairly easily. In many ways, it’s similar to holding onto stocks and receiving dividends. Many currencies even have benefits for the early birds along with initial coin offerings.
The validator nodes earn certain rewards which can depend on the way a particular blockchain operates. For example, certain systems reward users with the currency they primarily operate on, while others can have a 2 token system.
Similarly, staking schedules can vary or be entirely random. Certain blockchains reward users periodically using a fixed percentage. The calculation metrics can vary, but they ordinarily rely on some combination of these measures:
- The number of coins the validator is staking.
- How long the validator has been actively staking.
- Total coins staked on the network.
- The inflation rate.
These are just some of the factors (among many) to keep in mind when picking a blockchain for yourself.
Cryptocurrency Staking vs. Mining
The idea of shifting from mining to staking was a major developed for Ethereum, but the reason wasn’t just relieving the energy consumption. The amount of power required for mining caused all sorts of other financial issues that inevitably weighed the value of the currency down from its full potential. As such, it was an intelligent business move both in terms of resources and membership in the chain.
Aside from the main draw that mining is very machine-intensive, there are a bunch of other reasons to opt for staking if you can. Cold staking, the act of continuing the process while offline, is a major benefit. The system will keep running and earning currency in interest in the background while you’re free to do as you please.
Another capability staking lends you is that of trading on certain exchanges. While this particular activity has its critics due to the possibility of hacks and scams, there are a lot of people utilising this option. While there is still the possibility of foul play, some would prefer to use a dedicated exchange. Binance, KuCoin, and Coinbase are among the crypto exchanges that cater to this service.
On the other hand, the security of a PoW systems is far superior. The economic and technological disincentives for staking are far lower, which does open the door to bad-faith actors. Less gatekeeping can be advantageous but it also leads to a crowded pool.
Delegated POS & Cardano ADA Staking
Delegated Proof of Stake was developed by Daniel Larimer in the BitShares blockchain. It’s success made others follow suit soon after. This system is one where voting power is equal to the number of coins one holds. From these votes, delegates are elected to manage the blockchain on behalf of the voters. Delegates can typically earn rewards from this arrangement.
The advantage of this system is that it makes consensus easier for the system as it requires fewer nodes. With fewer validating nodes, the system performance remains unhindered and less complex. However, this does come at the cost of decreasing the level of decentralisation. On the other hand, while the system does have a reliance on certain user hierarchies, this makes it less of a burden on the blockchain.
Similarly, Cardano has a variation on PoS systems as well. It can be similar to Delegated versions, but there quite a few significant differences. Cardano runs on two layers: a settlement layer on which monetary transactions are run, and a computational layer that is used for smart contracts. For more information on how this helps in the specific generations of Ouraboros, check this article.
The more stake delegated to a pool, the higher the likelihood of their slot leader creating the next block. However, this creation needs to happen within a timeframe called an epoch. Anyone can participate with any amount of stake (even with 1 Lovelace). The chances of winning are proportional to the number of staked coins — the more stake, the higher the chance of being elected.
This applies up to a certain point, because after a certain level of stakes, likelihoods begin to look similar. This also keeps things a bit fairer in the long run while incentivising positive behaviour.
Under Cardano’s Ouroboros algorithm, delegating and un-delegating is far easier as well. Often, there is a lag between retrieving your tokens, by which time they can get slashed. The principal token amount will be far less at risk under such a system. There is also no penalty for removing delegation.
In simpler terms, a staking pool is when a group of coin holders merge their resources. This consolidation can then allow them to up their chances of validating blocks and receive rewards in return. They essentially pool in their sources and share in the rewards.
There is a lot of expertise and time investment in setting up and maintaining a staking pool. Additionally, such a tactic is less effective on platforms where there is a low barrier of entry. When staking is too open, a pool will be less effective.
Many currency traders have set up pools where there is an entry and membership fee. They often take an extra cut of the rewards in return for the upkeep of the staking pool. They ordinarily set up a minimum balance that users need to meet to remain in the pool, as this prevents foul play.
In the case of cryptocurrencies like Cardano, staking pools can be both public or private. Public pools allow for open delegation to all nodes within it (allowing them to reap rewards), while private pools only provide rewards to the owners of the pool. Here’s a more personal, in-depth review for the case of 3rd generation cryptocurrencies:
The higher the stake that is delegated to a stake pool, the greater chance it has of being selected as a slot leader. Each time the pool is selected and produces a block that is accepted onto the blockchain, it receives rewards. These rewards are then shared between the stake pool operator and stake pool delegators.
Which Cryptocurrency Should I Stake?
While bitcoin might be the biggest cryptocurrency on the market, it has the PoW drawback. You can’t stake it, so it isn’t an option. Alternatively, there are many 2nd and 3rd generation cryptocurrencies to fill the market. The problem is that picking one can be an onerous task on its own. Not all staking arrangements, wallets, and pools are equal. They can have drawbacks that you might want to consider.
Staking System Designs: Single-token
Staking systems can have a lot of variance, so it’s hard to cover all categories in one article. There are, after all, so many different types of cryptocurrencies with so many staking pools between them. However, some common design choices do pervade throughout. Majority of pools use a single token system, while others use a dual token system in their staking process.
Ethereum 2.0, for example, has multiple pools that use different systems. The single token pools tend to operate using rebalancing or repricing concepts. Under both types of design, the reward currency and the staked currency operate under the same token. This system
Rebalancing: Staking rewards and penalties accumulated on ETH2 are reflected in a changing token balance (hence “rebalancing”), whereby each unit of staked ETH token shall be redeemed against ETH in the pool at a 1:1 ratio in Phase 1.5.
Repricing: Staking rewards and penalties accumulated on ETH2 are reflected in the token price (hence “repricing”), whereby the amount of ETH that can be redeemed with one unit of the token in Phase 1.5 fluctuates with the amount of rewards and penalties of the pool.
However, the exchange rates vary, so putting a mined token in the pool pays back dividends. Lido Finance and Binance both use the rebalancing system, while Rocket Pool, CREAM, Stkr and StaFi use the repricing system.
Staking System Designs: Dual Token System
The dual token system offers two different tokens for staking and rewards. Ordinarily, one coin is the transactional stable coin applicable to fees, while the second volatile staking coin used to protect consensus. These two-tier system help prevent cryptocurrency volatility, as is the case with xDaichain. These types of token systems are becoming more common.
It’s growth and benefits were explained fairly well by The Ontology Team:
“The blockchain is currently in a period of rapid growth. On the one hand, the enormous value of “economic governance” of public chains has been more widely recognized and has resulted in a division of labour in different businesses. The scaling and performance issues of public chains are proposed to help the blockchain infrastructure meet business needs; on the other hand, it exposes the lack of diversity of on-chain applications, and the lack of public chain business is a bigger problem.
This is also the direction the blockchain industry is working towards: to seize high-value asset business and develop diversified businesses. The dual-token design not only ensures the development of the infrastructure system but also provides more services to justify the value of the infrastructure. Staking is both a fundamental governance model and can develop a range of value-based businesses.”
Peripheral Software: Cryptocurrency Wallets
You may also want to pick your cryptocurrency based on the peripheral software like wallets or exchanges. While it’s hard to say what the best cryptocurrency exchange software or wallet is, they do have varying features that give them different degrees of user-experience.
Additionally, it may be beneficial to look ask these questions when looking for a wallet:
- How many coins does it support?
- Is it open-source?
- How frequently does it update?
- Is it cross-platform?
- Does it have cold storage (offline capabilities)?
Exodus is considered one of the most user-friendly wallets out there, but it has the downside of not being open-source. If that’s a deal-breaker, you can look elsewhere. Wasabi is great as well but it only supports Bitcoin, so if your focus is on multiple currencies you may want to think twice. Of course, these categories depend entirely on what you’re trying to do. If you’re only looking to stake ADA, for example, you may want to sign up for Yoroi.
Similarly, exchange software can be a hassle to pick as they have even more variables than wallets. Here are some of the things you may want to keep track of:
- Variety of altcoin choices.
- User experience and ease of use.
- Level of liquidity.
- Whether the user retains wallet key control or not.
- Peer to peer money transfer.
- Payment models: Freemium, pay-for-play, or other such plans.
- Withdrawal limits.
- Geographical support.
- Transaction speeds, trading volumes.
These are by no means the only things that should influence your choice, but they are the most crucial. Again, these should not be dealbreakers if you’re looking for specific purposes. If you’re only looking to trade one specific cryptocurrency, you may want an exchange that deals with it exclusively (it may even be beneficial).
Another Factor: Personal Preference
Keeping in mind all of the factors mentioned above, one can derive a picture of what type of platform, pool, and cryptocurrency they may want. It can also come down to preference over things like a pool option for public delegation or whether you prefer to manage the pool yourself. Or maybe you want one without pooling entirely.
This article only aims to give you the tools to make your choice. Consider the factors above when you weigh your options. There are criteria that can be quantified as better than others, but at the same time there are factors that may sway you personally. Would you prefer the dual token system or the single token? Both can have their own advantages in calculation.
Differences in Blockchains?
Here are some general rules that most proof of stake systems operate under:
- The staker must agree that he will validate only the valid transactions on the network. To state an example, they must not approve double-spent transactions.
- For earning the staking reward from the network, the staker must trade his transaction validation capacity. These are called staking rewards.
- For approving any illegal transaction, the stakers may lose their entire stake.
Outside of this, variations can depend on the blockchain, and the rules can be different in each case.
If you had asked us more than a month ago (as of March 2021), the landscape would have been fairly different. However, for anyone who’s been following the Cardano news, there has been a major shift in the current market. Cardano has become a multi-asset blockchain. This has sent the ADA and Cardano forecast into an accelerated positive trend.
What does that mean? It allows the company, originally stocking only ADA, to use their blockchain to trade other currencies alongside there’s. Another reason this could be a game-changer is that it allows users to create native custom tokens on their trading platforms.
Individuals that are staking ADA are at an advantage as they can trade it for other currencies. This gives the average ADA holder some major benefits. However, if you’re looking to mine, that may be an issue. As such, there is no ADA or Cardano mining software as one can only stake it.
Case Study: Cardano & Associated Pools
Now we’re going to look at one case study of a staking pool and what they can be capable of. While we’re passing on information in this article as impartially as we can, it is in this spirit that we’d like our readers to know that we work with the EU ADA pool. We partner with the pool and offer marketing services to them. As one of partners, the EU pool holds no sway over the information we provide but it is worth keeping in mind.
That said, the EU ADA pool like many other Cardano pools is a is an international staking group with the ambition of furthering the applications of Cardano’s blockchain along with ADA. There are over 2000 pools that stake ADA, and all have collectively achieved tangible and admirable outcomes.
Cardano’s pools and blockchain infrastructure have a lot to offer outside of the purely digital realm. They are supported by many organisations that are striving to provide a stable staking pool for European and International Delegators. They also aid in the proliferation of blockchain systems in countries that most need it.
To this end, they have been working across the African continent to bring decentralised finance operations to solve local issues. For example, certain developers are looking at using it to make the agriculture industry in Ethiopia more efficient. Similarly, IOHK have been providing educational services in both Ethiopia and Uganda, helping to set up future generations of blockchain users and aiding the race to integrate systems with Cardano.
Next time, we’ll be covering how to start your own staking pool and how to stake Cardano ADA.