Staking: How to Make Money by HODLing
By | Updated January 7th, 2022
What does Staking mean?
In crypto, staking is a form of investment. The crypto owner leaves their coins in a sort of bank so the blockchain can use them to efficiently validate other transactions. As an investment staking is a relatively low risk (at least for crypto), but it can provide good passive income, provided you do it right.
What Is Staking?
DeFi markets operate on blockchains, which verity crypto transactions and record them as data. Blockchains can utilize a proof-of-work model to verify transactions, but this model requires mining devices – which are themselves powered electricity.
A proof-of-stake model, on the other hand, is significantly more efficient.
A proof-of-stake mechanism also validates entries into a blockchain. The blockchain requires other crypto users’ tokens to do this, and that is where staking comes into play.
When you stake, you are supplying tokens the blockchain can use to validate other users’ transactions. Because staking provides value, people who stake collect a small fee in consideration of their contribution.
How Does Staking Work?
Leaving crypto in your wallet is not analogous to stuffing $100 bills in your mattress. The blockchain actively creates new data out of coins that are sitting in a vault (crypto savings account).
The investor thus contributes to the blockchain by essentially doing nothing, but simply providing the coins requisite for validating transactions in a proof-of-stake model constitutes a valuable contribution to it.
Staking crypto does not mean that your coins will necessarily be used to validate transactions. Staking boils down to a numbers game: The more tokens you stake, the higher the likelihood that your property will be utilized to create value.
This is why staking more coins nets a higher yield, just as you would earn more interest for depositing more money in a savings account.
Staking is not very risky, at least as far as crypto goes. In contrast to liquidity providing, staking doesn’t carry the risk of impermanent loss (a danger unique to investing in liquidity pools, where it is possible to net a lower reward than if you had just HODL’d your coins instead).
It is possible that the value of the stacked coin will drop, but that is a constant problem however you’re utilizing your crypto.
There is typically a minimum amount of crypto that you’re able to stake in a proof-of-stake blockchain. If your staked coins meet that threshold, you can realize an annual percentage yield in the ballpark of 5 to 25%.
Staking your crypto can be a good way to earn passive income. The rewards won’t necessarily be as great as if you’d pursued another investment strategy, but the lower risk staking carries makes it a good way to keep your portfolio balanced.