Your ultimate guide to proof of stake 🔥

A complete guide to proof of stake cryptocurrencies. Any question you could possibly have about staking is right here. It’s a long one, so strap yourself in.

Kyle Turnbull

April 07, 2021 · 10 min read

proof of stake cryptocurrency ultimate guide

Here it is. Your complete guide on proof of stake cryptocurrencies. Any question you could possibly have about staking is right here in this blog. It’s a long one, so strap yourself in.

Here’s what we’re covering:

  • Proof of stake consensus overview
    • What is proof of stake?
    • Why does proof of stake exist?
    • The different types
    • Benefits
    • What coins use proof of stake?
    • What makes proof of stake coins unique?
  • Staking 101
    • What is staking
    • How can I start
      • Choosing a coin
      • Buying your coins
      • Sending to wallet or solution
  • Proof of stake wallets
  • The importance of it being easy
  • Addressing the idea of passive income
  • Staking viability
    • Is it profitable
    • Is it viable
    • What are the risks associated with it
    • How can I mitigate these risks
  • What comes next for proof of stake

Let’s start simple. Cryptocurrencies operate without a central authority. This means they have to create a new way of securing transactions and users’ funds. This is done through something called consensus. So let’s define that first.

What is consensus?

Consensus is defined as a general agreement. We can use this to make consensus mechanisms simple to understand. In cryptocurrency, validators reach consensus on whether the person sending the funds actually has those to spend. Every validator must sign off on that transaction, and once consensus is met, that transaction is approved. This fundamental concept is consistent across cryptocurrencies.

Stakers in a cryptocurrency network validate transactions

Stakers are the muscle of any network.

So what is proof of stake?

Proof of stake is a type of consensus mechanism. In cryptocurrency, there are plenty of variations. In proof of stake, people must collateralize the currency they are validating. This is a critical security measure, as it prevents bad actors from sabotaging the blockchain, as they would lose their stake for doing so. A staker (validator) can only validate proportional to their stake in the network. If someone has 5% of the coins staking, they are able to validate 5% of transactions. Proof of stake was developed after proof of work, which is Bitcoin’s consensus mechanism (for more on proof of work, read this blog).

The different types

Proof of stake exists in many different forms. Every different type has the same fundamental structure, however, roles differ, and so does the way in which consensus is reached. Below are some of the varieties of proof of stake:

  • Delegated POS: Elected delegates are responsible for the validation of blocks. You can think of this as a type of pooled staking, whereby all members of the network choose delegates and commit their stake to that delegate.
  • Liquid POS: With liquid proof of stake, delegation is optional. LPoS introduces on-chain voting, allowing direct changes to the blockchain.
  • Hybrid POS: This mechanism utilizes elements of both PoW and PoS. By doing this, HPoS theoretically reduces the weaknesses of both models.
Delegated proof of stake consensus

What is delegated proof of stake?

Benefits

The argument between proof of stake and proof of work rages on. Let's cut through the noise. Proof of stake is beneficial in the following ways:

  • Reduced centralization risks: due to its more proportional effect of users on the network, and ease of use, proof of stake fosters participation and therefore a more diverse and less centralized ecosystem. When people are able to participate more readily, they will.
  • Reduced energy consumption: Because proof of stake’s security is derived from collateral, not work, it uses a fraction of the energy that proof of work does.

What coins use proof of stake?

We have created a list of coins that are paving the way for proof of stake adoption:

  1. Cardano
  2. Divi
  3. Ethereum
  4. Tezos
  5. Polkadot

Best coins to stake 2021

Best coins to stake 2021

What makes proof of stake coins unique?

The most unique aspect of proof of stake is the way it fosters a more equal and accessible system of consensus. When Bitcoin was created, it was seen as a peer to peer cash. In reality, the nature of proof of work has led to increased mining difficulty, freezing smaller players out of the ecosystem. Due to the cost of power, and graphical processing units. In proof of stake, this is far less of an issue. Smaller players will always be able to contribute to the network.

Staking 101

What is staking

Staking is the action by which cryptocurrency users validate transactions. There are two key requirements for someone to stake a cryptocurrency.

  • A stake: The user must own a stake in the network. This collateral is an important aspect of the proof of stake consensus mechanism, as it ensures that the validator is committed to the health of the network.
  • A functional staking wallet OR staking service: A functional wallet allows the user to connect to the blockchain to validate. A staking service does this for the user, taking custody of the user’s coins, facilitating the staking process.

What do stakers do?

We can use the stakers on the Divi Blockchain as an example here. This will differ slightly from project to project, but the theme is the same. Stakers are everything when it comes to transactions. They validate, verify and submit the blocks to the blockchain. They also re-verify blocks as the blockchain progresses. They maintain synced to the blockchain until it becomes immutable. They are also able to store and share blockchain data when running full time.

Stakers are the muscle of the network. They get stuff done. They are responsible for the daily tasks that are required to keep a network secure.

Proof of stake consensus

What is consensus?

How can I start

So now you understand proof of stake, what it is, and why it’s awesome, you’re probably wondering how you can get started. Here’s a little checklist that can help you on your way:

  1. Research a coin: We’ve included a list of the things to keep in mind when researching a coin to invest in. People always talk about ‘solid fundamentals’, but what does this mean? Fundamentals can mean anything from the team to their vision, record of delivering, funding, partnerships, etc. The term ‘fundamentals’ refers to how strong you perceive the project to be. This is something that only you can decide.
  2. Choose a wallet: So you’re interested in staking, or proof of stake coins. Where do you keep them? There are so many different options it can be incredibly overwhelming when you throw security concerns in the mix. If you need help choosing a wallet, we have a blog for you. If you want a quick summary, read on! Like all topics on this guide, we have more specific articles that go further in-depth on each aspect. If you want to know about cryptocurrency wallets, check out this blog.
  3. Buy your coins on an exchange: This is by far the biggest pain point in crypto at this stage. The interaction of newcomers with exchanges is a massive deterrent, as the process is convoluted, scary, and time-consuming. There are a few key steps that you need to know about, which will make the process slightly more painless.
  4. Send to a wallet or staking solution: Once you have purchased the coins you’re interested in, you’re ready to send them to your wallet of choice!

Staking checklist and how you can start in 2021

Let's help you get staking!

The importance of it being easy

Cryptocurrency networks derive their strength from their users. If the ability to stake is only reserved for those willing to learn the technical details, these networks lack diversity. The easier staking is, the more inclusive our networks become, and the more secure they are. As a highly complex technology, this has not been at the forefront of crypto development, until now.

Is it Viable long term?

This is a complex subject, with a variety of critical factors. To truly understand why staking has a future, we need to understand the problems it solves, and the value it adds to financial freedom. Its role in the financial revolution should not be underestimated, as the average person begins to understand how the current system is rigged in favor of institutional money. If we look at the growth in the cryptocurrency market over the last few years, it’s hard to look past staking as a viable investment option. There’s a lot more to this subject, which we cover in-depth here.

Is it profitable?

Profitability is hard to define and requires the user to understand some key aspects and make assumptions about the market. For staking to remain a good investment, the coin itself must maintain its value. This is why many people like to be invested in the project, as it makes the price swings more palatable. As you earn rewards in the native currency, if its value drops, so too does the value of your reward. Profitability is relative. There are also other ways people are generating income in the crypto space. The meteoric rise in the price of Bitcoin has led to many different strategies.

Making money with cryptocurrency in 2021

Is staking profitable? How do we define profitability?

Addressing the term ‘passive income’

We often see the term ‘passive’ thrown around when referring to staking rewards. It’s important that we set the record straight on this, as it has an effect on the perception of cryptocurrency. Stakers earn rewards for staking. This incentivizes good, secure behavior. Stakers have to provide collateral in the form of the currency they are securing, and must maintain the wallet connection. You are assuming risk through investment. Work is required. You earn rewards for providing a critical piece of the cryptocurrency puzzle.

What are the risks associated with it?

Like all investments, there is a risk. Our advice is always to learn more. The more you know, the safer you are. Education and vigilance. These two are key to online security. Understanding where the risks come from is incredibly important, and staying vigilant is key. Below is a list of risks, and how you can mitigate them. This list is not exhaustive but contains the more common issues users may face!

How to stay safe with crypto

Holding cryptocurrencies present risks. Stay safe out there!

Locking up your coins

Some proof of stake projects require coins to be ‘locked’ for periods of time. This should always be considered risky. If you’re giving up control of your coins, that presents a massive risk to your asset.

Solution: Only choose staking solutions that allow you to maintain complete control over your coins, at all times. No exceptions.

Ability to trade your coin of choice

This refers to both the liquidity and volatility of the asset you are staking. Liquidity is how easily an asset can be ‘liquidated’ into cash. Volatility refers to the swings in price, which is a common argument used by detractors of cryptocurrency.

Solution: There are a couple of ways users can manage the risk of volatility and liquidity.

Custodial solutions

Custodial solutions refer to any solution that takes control over your private keys and secures your crypto for you. These can be handy for those not ready to be solely responsible for their finances, but they’re still at risk. If you want your crypto back, it’s up to that centralized entity to release it to you, which can become a problem

Solution: If you absolutely must use a centralized entity, ensure you’ve researched their history, security, and insurance policy, so that if your coins go missing, you may be compensated. We would always encourage users to

Network attack

A network attack (known as a 51% attack) occurs when a bad actor gains control of the network by owning 51% of the coins. This is a problem for all proof of stake coins and is negated by having healthy and distributed ecosystems. Realistically, the chances of this happening are very low, but it’s always an important consideration.

Solution: Check how decentralized a coin is before you invest. Understand how a proof of stake coin achieves security.

Phishing

Phishing occurs when a user is contacted in some way by a bad actor, in an attempt to steal their coins. Phishing can happen in a number of ways, through dangerous links, viruses through programs, or purely person-to-person communication.

Solution: Never communicate with people you don’t know. Do not click links you are sent or applications from untrusted sources. The computer that you store your crypto on should be treated with caution!

Proof of stake in the future

What's next for proof of stake?

Summary: What comes next for proof of stake

It’s hard to predict the future in this space. It’s so dynamic that each year presents new challenges, new features, new risks, new solutions. The goal of the Divi Project is to remain agile, whilst keeping the user front-and-center at all times.

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  • Bitcoin
  • Proof of stake

Kyle Turnbull

April 07, 2021 · 10 min read

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