Staking is one of the most popular passive income ventures in the crypto space but begs the question – is it safe?
Based on the Proof-of-Stake (PoS) consensus algorithm, staking allows investors to earn rewards by locking in tokens on a blockchain network for a specific period.
When you stake your assets on a network, you directly or indirectly become a validator charged with the responsibility of validating transactions and protecting the network’s integrity.
For each new transaction you approve, you receive interest on your stake weight in the form of newly minted tokens.
Compared to most traditional savings and investment plans, staking offers a better interest rate with some crypto assets allowing investors to earn as high as an annual percentage yield (APY) of 20%.
Unlike crypto mining, staking does not require investors to acquire expensive equipment with high processing power to compete with other “stakers” and win staking rewards.
Staking also enables investors to gain voting rights which allow them to participate in the network’s governance, creating and approving proposals centered around the network’s development.
However, for all its benefits, the concept of staking is not all gold and glistening. There are certain risks all investors should know before choosing to stake on any network. Some of these risks could be severe, resulting in investors losing the partial or complete value of their staked assets.
Let’s go through the major risks when staking crypto.
The crypto market is widely known for its high volatility. At any point, a high-value crypto asset could lose a considerable percentage of its worth, throwing investors into severe losses. This presents one of the biggest risks to all forms of crypto investments – including staking.
While a staking platform could offer lucrative interest rates on an asset, there is a good chance that you will still record a loss if the chosen asset experiences a massive fall in market value. For example, a 20% APY for staking token would not generate any profit if the value of the token plummets by 50%.
Therefore, when picking an asset for staking, investors are advised not to rely only on projected interest but also on other factors, such as its past market performance and price appreciation prospects.
Liquidity refers to the availability of an asset in the market. It is an essential factor that all potential stakers should consider, as staking assets with little liquidity could lead to no actual profit regardless of its interest rate.
This is because difficulties will likely occur when you attempt to convert such assets to fiat currencies or swap them for another asset on crypto exchanges. In general, the risk of liquidity – or illiquidity- occurs with new and upcoming altcoins.
Investors should look to stake popular assets with high liquidity levels and listings on multiple major exchanges.
Staking usually requires investors to commit their assets to the network for a fixed time. During this staking period, you cannot access or withdraw your crypto tokens as they are locked in the network. Therefore, if the said token is experiencing a bearish trend, with a significant drop in its price, withdrawing the token to sell it off is a difficult task.
In situations like this, you could end up withdrawing crypto tokens with a far lesser value than when you initially staked them. To avoid the challenges of a lock-in period, you can explore platforms that offer flexible staking plans. However, while flexible plans allow you to withdraw your assets at will, they usually offer a lower interest rate than usual.
When it comes to cryptocurrency investments, there is a constant risk of losing one’s assets. In staking, asset loss could occur in various forms. If a staking platform, e.g. Binance, is compromised by hackers, it is possible the the platform could lose control over all crypto being staked.
Hackers could also acquire investors’ assets by directly exploiting smart contract vulnerabilities of a blockchain network. Hence, it is important to evaluate the security of any staking platform or blockchain network you intend to stake your assets on.
For most staking plans, rewards are usually paid out after the end of the staking durations, which can be as long as 30-120 days. During this period, earnings are accumulated by the staking platform and are inaccessible to the stakers.
While this may not affect your interest rate, it limits your earning ability as you cannot utilize your rewards to make other secondary investments. In avoiding situations such as this, it is best to stake via platforms that offer daily payouts, like Binance, Kraken, etc.
When you participate in staking, you act as a network validator either directly or indirectly. In playing such a role, there are certain expenses involved. As a direct validator, you incur costs by setting up and running a validator node on the network. This could be in the form of equipment, electricity, or technical knowledge.
If you choose to stake as a delegator, you are required to pay a commission to the active validator you are dealing with. That said, staking platforms like centralized exchanges also charge fixed commissions on stakers rewards. These fees are usually unknown but can be pretty significant.
On any PoS network, there are specific penalties imposed on validators for showing malicious network behaviors such as double signing or prolonged downtime. For most crypto networks, these punishments usually affect only the staking rewards of the validator.
However, in severe cases, “slashing” can occur in which a validator loses a portion or all of its stake weight. As a validator, it is important to ensure optimum efficiency by acquiring the technical knowledge and facilities needed to maintain a network node. Meanwhile, delegators are reminded to check a validator’s performance history before committing their assets to them.
While staking eliminates the monopoly of high-processing computers present in Proof-of-Work blockchains, it introduces another form of network monopoly in which only validators with higher stake weight than others are chosen to verify transactions and win staking rewards.
As an investor, you are unlikely to earn any interest if you are staking a low amount of tokens. This system of operation discourages the concept of equity and decentralization, allowing only a select few to benefit from staking.
In dealing with such situations, it is advisable for crypto investors to always delegate their tokens to validators with large stake weight. Alternatively, you can also explore staking plans on centralized exchanges known for their low staking requirements.
There are various ways you can lose assets via staking. For example, if the staking platform or the blockchain network is hacked by bad actors, there is a high chance of asset loss. You can also lose your crypto assets if your chosen validator displays any malicious network activity that results in slashing.
Cryptocurrency staking can be considered a worthy investment as it allows you to boost your holdings while waiting on future price appreciation. Income earned via crypto staking can help upset losses during a bear crypto market so most long-term holders opt into participating.
There are multiple downsides to staking, including market risk, validator costs, inaccessibility to staked tokens, and asset loss/theft.
There is no cryptocurrency that is totally invulnerable to attack. However, some crypto assets have a strong reputation for generating steady staking returns while offering investors impressive security. These include Cardano (ADA), Ethereum (ETH), and Polygon (MATIC).
It goes without saying that staking offers many an avenue to make some easy money in the crypto space. However, like all crypto ventures, there is no guarantee of its profitability at any point in time.
As investors, there are certain risks to consider before choosing to stake any token, regardless of its promised APY.
It’s really up to you to determine whether the risks outweigh the rewards. That said, staking still represents one of the best means of earning passive income with crypto and isn’t disappearing anytime soon.
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