While many speculators buy and sell cryptocurrency for profit, another group of crypto owners enjoy the income created through staking rewards. Staking rewards are a kind of income paid to crypto owners who help regulate and validate a cryptocurrency’s transactions. In that sense, staking rewards are like a dividend or interest on a savings account but with much greater risk.
Here’s how you can earn income through cryptocurrency staking and an explanation of the risks for doing so.
What is crypto staking?
Staking is a key element of cryptocurrencies that operate using “proof-of-stake” validation. In a proof-of-stake system, investors who own the cryptocurrency can help validate transactions in a given cryptocurrency’s blockchain database. Typically, they must own a minimum number of coins to verify transactions, and then they are permitted to become a validator.
Validators participate in the decentralized computer network that confirms transactions and ensures that those recorded in a crypto’s blockchain are legitimate. For doing so, they are rewarded with some cryptocurrency. But it’s not a riskless process for those who stake their coins and become validators, since they could lose some of their investment by approving (potentially fraudulent) transactions that don’t conform to a cryptocurrency’s rules.
Even those who don’t have enough to become a validator themselves can pledge their coins with a validator and earn rewards. So those with just a few coins can earn staking rewards if they work with a crypto exchange or another crypto platform to do so. Rewards can be deposited into your account as they are earned.
How much can you earn through crypto staking?
The amount of staking rewards that can be earned varies greatly, depending on the staking platform, the cryptocurrency and how many people are actually staking a given coin.
“With the more popular coins such as Ethereum, Cardano and Polkadot, the rewards vary from 5 to 20 percent,” says Eddie Rajcevic, research team member at tastytrade, a financial media network. “With smaller cryptocurrencies, these rewards can even be above 100 percent.”
If you’re working with a crypto exchange to stake your coins, you may receive different rewards from one to the next. Some might take a cut of any staking reward, while others may pass the whole reward on to you. Other trading platforms have different rules and rewards.
“There are platforms that choose to have a fixed yield for a specific lock-up term with a maximum reward per user, while others adjust their yield daily based on the staking rewards left within a specific pool,” says Claudiu Minea, CEO and co-founder at SeedOn, a blockchain-based crowdfunding platform.
Finally, it’s important to understand that these staking yields can change depending on how many people are participating and what the total reward pool is.
“Yields change largely because the rewards are fixed over time but the amount of capital that participates in staking or lending changes,” says Ivan Zhang, CEO and co-founder of Pennyworks, a platform that offers rewards for decentralized finance (DeFi) lending. “The more people who are staking or lending, the lower the rewards, and vice versa.”
How to start staking your crypto
With many crypto exchanges offering staking rewards on at least a few coins, an exchange can be an easy path for those who are starting to stake, say experts. But there are other options for crypto owners, including staking-as-a-service platforms and DeFi lending platforms.
“The simplest way to begin with crypto staking is through an exchange, such as Binance, Kraken, or Voyager,” says Rajcevic.
If you’ve purchased your coins through an exchange, it can be simple to inform the exchange that you want to participate in its staking program. Then rewards are deposited directly into your account according to whichever schedule the exchange has established.
Minea points out cryptocurrency exchange Binance as a potentially good starting point, because it’s “the world’s largest crypto exchange when it comes to trading volume and it is trusted by millions of users worldwide.” He says that Binance offers service for proof-of-stake coins as well as for DeFi lending, a similar kind of service that offers rewards on stablecoins such as Tether.
“In these situations, you are lending stablecoins such as Tether,” says Zhang.
Working with a DeFi lending platform might be a more attractive option for many crypto owners, due to the lower volatility of the stablecoins used in them, though it presents new risks, too.
Stablecoins are often backed by real assets such as U.S. dollars or even bonds, giving them a firmer valuation, unlike most cryptocurrencies such as Bitcoin and Ethereum. These coins are then lent to others, meaning that there’s always the potential they won’t be repaid.
“Yields also vary a lot and could be similar to staking, but without all of the volatility,” Zhang says.
What are the risks of staking?
While it may seem like you’re getting free money for participating in crypto staking, it’s important to understand that there are significant risks involved:
The underlying cryptocurrency is volatile
“The biggest risk is price movement in the crypto you are staking,” says Rajcevic. “So while a 20 percent yield might sound attractive, if the crypto drops 50 percent in price, then you will come out a loser.”
The price for earning staking rewards is bearing the cryptocurrency’s potential downside. In this respect, the risks are much higher than with a savings account, where your principal is insured, or even a dividend stock or ETF, where the volatility is much less than with cryptocurrency.
Potential rewards may be too good to be true
If you’re working with a cryptocurrency or platform that promises huge rewards, you need to be careful.
“Smaller cryptos will normally offer higher rewards, but please do your own research,” says Rajcevic. “Many of these projects end up being hyperinflationary or failing. So even though you may receive a 150 percent yield, the value of the crypto you receive may continue to decrease, leaving you with a worthless bag.”
You may have to lock up your cryptocurrency
Some staking partners may require you to lock up your cryptocurrency for a period of time to participate. Rajcevic points to some exchanges that could lock up your coins for as much as 180 days, meaning you’ll be unable to un-stake them and sell.
“So if the value of the crypto drops substantially while you are in the lock-up period, you are forced to wait until the time ends and you can un-stake,” he says.
Hacking could potentially hit either a platform or a given cryptocurrency, so you’re bearing those risks if you continue to hold individual cryptocurrencies.
“Staking platforms that are trusted by millions of people and have been around for a long time now are still prone to hacking or cyber security threats,” says Minea. “This is the main reason for some crypto investors choosing to stake their tokens on hardware wallets.”
Fraudulent or insecure staking platforms
Some staking platforms may advertise very high returns in order to persuade clients to participate without fully considering what they’re getting into. So it’s important that crypto owners carefully vet any platform.
“Depositing and staking your tokens on a platform that is not trustworthy may result in the loss of funds and rewards,” says Minea. “It’s important to conduct this type of research on platforms that are not that popular.”
Should you stake your cryptocurrency holdings?
If you’re thinking about staking your cryptocurrency, you’ll want to consider a few things before getting started. The most important question to ask yourself is whether staking aligns with your investment thesis. Are you looking to trade crypto for profit or are you looking to hold it for a longer period?
If you’re looking for a quick trade, staking might not be for you, especially if the platform requires a lock-up. If you think cryptocurrency has a long and prosperous future, then maybe agreeing to a lock-up where you can’t sell is worth it. The staking rewards may be just gravy to you then.
Naturally, you’ll also want to consider the risks mentioned above and any other that might pertain to your specific cryptocurrency or staking platform. And when you stake crypto assets, you’ll want to understand the conditions of any agreement, says Minea.
These conditions include:
- Whether you’re required to lock up your assets and for how long
- What rate of return you could potentially earn
- What minimum amount, if any, that’s required to lock up
- What the maximum reward per user is or the maximum amount that can be staked
- What the size of the total reward pool is, if any
These elements all play into whether it makes sense for you to participate in staking and, ultimately, how much you can earn. You’ll have to make the decision as to whether the potential returns are worth the risks you’re running.
Cryptocurrency staking offers the owners of cryptocurrency a way to earn income that’s separate from just trading the coins. While the income may be a nice perk of holding a coin and seem to be risk-free, it’s important to remember the downsides of owning and trading crypto, ones that potentially vastly outweigh what in many cases are relatively small staking rewards.
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Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.