Got ETH? Time to prepare for Ethereum 2.0
You have some idea about Ethereum 2.0 (hopefully after reading our blog post). You know Phase 0, the launch of the Beacon Chain, is coming soon. You know it’s a groundbreaking upgrade. You know you’ll be able to stake. But, why should you stake in the first place? Are there any risks associated with staking? What do you need to do as an ETH holder to get prepared?
We will explore these questions today and help point you in the right direction as you start contemplating what to do with your ETH!
Why should you stake?
Contributing to network security
While hashrates were the determining factor of a Proof of Work network’s security, for Proof of Stake, security depends on how much of the network’s tokens are locked up to actively participate in validating. Supermajority (⅔ of the entire staked tokens) is a critical threshold for Proof of Stake. The more expensive it is to acquire the supermajority, the more difficult it becomes for malicious actors to attack the network.
Holding onto ETH means you are taking a long position on the value of ETH. The last thing you would want is for double spend attacks or finalization halts to happen on Ethereum. Therefore, as a long positioned ETH holder, you should consider staking some in order to contribute to the network’s security.
Promoting decentralization
Mining has become a highly industrialized field. To be a serious miner, you need the latest mining rigs and need to locate in regions with cheap electricity. This threatens the decentralization of the network by creating a barrier to entry and centralizing some layers of the network’s security to a few actors. Proof of Stake creates an opportunity for everyone to participate in securing the network from anywhere around the world. By staking, you are helping the network become further decentralized.
Receiving staking rewards
Frankly, this will be the biggest driver for most ETH holders. On Ethereum 2.0, validators, a lot like the miners on Proof of Work Ethereum, will be rewarded for contributing to the network security with inflationary ETH rewards. As long as your validator acts honestly and stays online, you can expect an annual staking reward rate of 2% to 22%, depending on how much of the entire network is staked.
What are the risks of staking?
Early stage software
All client teams are taking very careful steps to get multiple code audits and battle test their code on incentivized testnets. The teams are being prudent in not rushing the beginning of the Beacon Chain, and most maintain their stance of launching only after sustaining a public multi-client testnet for at least 3 months without any incidents.
However, it is still possible that there are unforeseen bugs in the code that could have mild to severe consequences. Only time will prove the software’s robustness, and the early stages of the Beacon Chain could very well be a bumpy ride.
Slashing and penalties
Proof of Stake requires tokens to be locked up for security guarantees. This attempts to tackle the “nothing at stake” problem where a validator can potentially vote for different blocks to be added to the chain without any repercussions. To prevent this, ETH will get locked up and can be slashed in the event that a validator starts to behave in malicious ways that could harm the network. Additionally, validators will see their balances get penalized if they are offline for too long. Slashing and penalties are slightly different concepts in Ethereum 2.0, but in both scenarios, your ETH balance could get deducted.
ETH lockup
ETH will need to be locked up for the entire time you are staking. While this in itself should be a strong consideration for prospective stakers, the other factor to consider is that your ETH can only be moved from the current Proof of Work Ethereum to the Beacon Chain. This is a one-way bridge, and ETH will no longer be able to move back to the Proof of Work Ethereum. Additionally, there will be no way to move ETH around on the Beacon Chain itself, effectively locking users in until additional functionality is added to Ethereum 2.0. For now, transfers (withdrawals) are planned to be rolled out in Phase 1.
Third party validator churn
Relying on a third party validator will carry churn risks. It’s perfectly understandable that some people may not feel comfortable enough to run their own validators. There are different flavors of validators that an ETH holder can choose from, which we will discuss soon. But one big risk to be always mindful of is whether the selected third party validator will keep operating for the next 1–2 years until ETH can be withdrawn.
The validator market is cutthroat. We’ve been in the validating scene for the past 2 years and have seen many validators enter and also many more validators shut down. If your chosen third party validator winds down before withdrawals are enabled, you may be stuck with ETH that will no longer be generating any staking rewards.
What do you need to do now as an ETH holder?
Staking ETH should not be a default decision, at least for Phase 0. I have already listed some of the risks and you should do your own research (DYOR) carefully. If you are ready to proceed with staking even after thoroughly understanding the risks involved, here are some steps you should be taking!
Step 1: Determine how much ETH you should be staking
I have outlined many of the risks that will be involved with staking ETH. If you are undeterred by these points, then the next step would be to determine how much you want to be staking. Any ETH you stake would be at risk and inaccessible until withdrawals are enabled. You should seriously consider your level of risk tolerance and only stake a portion of your assets. Please be responsible and do NOT stake all of your assets.
As soon as you have a number in mind, calculate the number of validators you would need. Each validator needs exactly 32 ETH locked on it. While it is possible to lock up more than 32 ETH on a single validator, it will not get you more staking rewards. Feel free to play around with some of the calculator simulators to estimate how much staking rewards you can expect to earn.
Step 2: Try to run your own validator
Ethereum 2.0 has been designed to let anyone run validators from home. A good place for aspiring validators to start is to read the launchpad announcement by the Ethereum Foundation. There may be a few reasons why you may not be able to run a validator: a) you aren’t technical enough, b) your validator can’t be online more than 50% of the time, or c) you don’t have any time to spare. There may be many more viable reasons, but you won’t know for certain unless you try! What better way to find out than to try this out on a testnet where there are no consequences?
After spinning up a validator and maintaining it for a few weeks, this is a good time to ask yourself if you think you can run a validator on the Beacon Chain. If you think you’ve got this under control, great, it’s time to skip over the next step. If not, that’s okay, it’s time to look over some alternative options available to you.
Step 3: Assess third party validators
There are many different types of validators. I will discuss these types of validators in more detail in a follow up article, but here are the high level highlights for each bucket.
- Exchanges & custodians
The easiest form of staking will be available through exchanges and custodians. All you will need to do is deposit your ETH to their wallets, maybe go through a signup process, and you should be all set. The biggest downside to this bucket is that you won’t own your coins. Not your keys, not your coins. - Staking pools
The biggest distinguishing feature of staking pools is that you won’t need all 32 ETH. Staking pool services will act as the middle ground for people with less than 32 ETH to pool their ETH together to stake. Since most of these coordinations will be happening through smart contracts, you will need to validate that the team has gone through enough security audits. - Validator-as-a-service
Validator-as-a-service providers will only hold onto your signing keys (which perform the validator responsibilities) and let you retain full control of your funds. This also means, however, that you will need all 32 ETH in order to sign up to their services.
You will need to assess which flavor of validator suits your preferences most. After that, you should start researching different validator projects that fall in your chosen category. Here are a few good questions to ask yourself as you assess each candidate:
- Does this team have a strong background in DevOps and a proven track record?
- Will I keep full control of my withdrawal keys?
- What are the fees charged?
- Will this validator project be alive until withdrawals are enabled?
- What sort of features will this validator provide?
- Is there an active communication channel with the team?
Do not hesitate to reach out to each of the validator projects to get more information. Most will be more than happy to answer questions you may have on their services. You can start creating a shortlist based on your research. You don’t necessarily need to narrow down your list to a single validator! Keep your options open until the Beacon Chain actually launches. Additionally, using a diversified set of validators is a viable strategy in mitigating some risks.
Step 4: Follow the latest news on Ethereum 2.0
The exact date of the Beacon Chain launch is still undecided. The Medalla multiclient testnet would need to run without incident for at least 3 months before a launch date will be set. The previous community-run multi-client testnets like Altona have been running successfully, so the community is anticipating Medalla to run smoothly and is hopeful that the Beacon Chain will launch in Q4 of 2020.
There will obviously be a lot of noise as one of the most anticipated launch dates in the blockchain scene approaches. Here are some good sources to follow for organized communication and updates:
- Ethereum Foundation Blog: https://blog.ethereum.org/
- Week in Ethereum News (curated by Evan Van Ness): https://weekinethereumnews.com/
- What’s New in Eth2 (curated by Ben Edgington): eth2.news
You are all set now! If you made it this far, you are likely far more prepared than the majority of ETH holders. If you are intrigued to learn more about what Ethereum 2.0 is, remember to check out our articles exploring this upgrade.
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