What Is Staking And How Does It Work?
In crypto, staking can refer to two different concepts. The first one is used in the Proof-of-Stake consensus mechanism, where blockchain nodes stake their crypto assets to be in the run for the transaction validator role.
In this article, we will examine the second concept of staking — the so-called “Passive Staking” where investors choose to lock up their crypto assets in exchange for interests. This passive staking represents one of the popular and lucrative forms of making passive income through CeFi and DeFi platforms.
What is passive staking?
The crypto space offers countless investment opportunities and staking is one of them. The staking service enables users to “lock up” a part of their crypto assets for a desired period and in return receive interests on a daily, monthly, or yearly basis.
How does it work?
You can access staking services through Centralized Exchanges, like Binance, or various DeFi platforms, like Compound. Each platform has its own specifications which is why investors need to do their own research and choose the staking parameters that best suit their needs.
In general, certain parameters are common to all platforms. Here are some of the most common ones:
- Duration of staking:
Staking services usually require users to choose a staking period, e.g., 30 / 60 / 90 days. Users who decide to stake their coins must choose a certain period for which their assets will be locked-up. During this period, they will be earning interest on their deposited crypto coins. After the period has passed, they can use their assets and interests freely. Users can also decide to redeem their coins before the agreed period is over, but they will sometimes need to wait a couple of days to get access to their assets. Because they did not comply with the agreed staking period, they will also have to forfeit their interest in the platform.
It should also be noted that some staking platforms offer their services without time limitations. Investors can stake their assets and redeem them as they wish. A win-win situation.
- Minimum number of coins to stake:
Some staking platforms require a minimum amount of coins that need to be staked. The amount differs from one cryptocurrency to another. However, some platforms do not pose any limitations on the amount of assets users need to stake.
- Interest rates:
The biggest incentive in choosing the right staking platform is the interest rate which can be broken down into two aspects: the Annual Percentage Yield (APY) and the Annual Percentage Rate (APR).
APY represents the amount of money you will earn if you keep adding your earned interest into the staking pool throughout the agreed period. This is also called compound staking. In other words, you can decide not to redeem your daily or monthly interests and instead stake those as well, thus increasing your end profit.
APR represents the amount of money you will earn after a specified period if you redeem your interest on a regular basis, e.g., daily, or monthly.
What are the benefits?
The obvious benefit of staking is making a passive income. Crypto investors who are determined to hold their cryptos can make use of their assets by staking them. It’s basically money making money.
Apart from redeeming interest (APY or APR), their staked assets are locked up in smart contracts which makes them more secure in the event of a hacker getting control of a user’s wallet.
For staking platforms
CeFi and DeFi platforms decide to offer staking services to attract more investors by offering them APY. In return, they benefit from increased liquidity, higher coin stability, higher demand rate, and platform promotion.
What are the downsides?
Investors who decide to stake their assets for a predetermined period must forfeit certain liberties of the crypto space. For example, if they decide to withdraw their assets they need to wait for a couple of days before the coins get released from the staking pool. If the market experiences high volatility, investors cannot react fast and sell their staked coins.
How to Choose a Staking Platform?
As always in crypto, every investor needs to do his own research.
- Always do a thorough research of the staking platform, including Twitter, Reddit, and Telegram to see what others are saying about the platform, as well as reliable crypto analytics like StakingRewards. The research should always include reading the terms and conditions or rules governing the staking process.
- While APY and APR are important factors of staking, investors should also consider the Total Value Locked (TVL) which offers them a wider and more accurate view of the strengths of the platform and pools.
- If you are not too savvy in DeFi platforms, it’s better to use CeFi staking options, like Binance, Gemini, Kraken, etc.
More exceptions than rules
Staking platforms offer an abundance of different options and opportunities which is why trying to fit them into general categories has proven to be a difficult task. There are more exceptions to passive staking than there are rules.
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