Note: This article is not financial advice. Hubble Protocol does not endorse any tokens or platforms mentioned in this article.
Key Takeaways
- Crypto staking provides networks security in return for yield.
- The term "staking crypto" is often a misnomer used as a marketing tool.
- Users can participate in DeFi protocols by staking a protocol's tokens.
Crypto staking is one of the most basic ways to earn yield from holding crypto. Additionally, staking crypto tokens plays a fundamental role in securing energy-efficient blockchains like Solana that rely on a proof-of-stake (PoS) consensus mechanism.
This article will explain what is crypto staking and how staking crypto works. It will also clarify the difference between programs that are advertised as staking and what it means to actually stake crypto. It's an important distinction that can help users answer the question "Is crypto staking safe?" for their situation and risk profile as they pursue yield.
Users Earn Rewards from Staking Tokens and Securing a Blockchain
Blockchains are a kind of distributed ledger technology (DLT) that relies on multiple actors to reach a consensus on the valid, one true state of a decentralized network. Every validator holds a copy of the network's records, and some of these validators are chosen to add new information to the records through different means of randomization.
When it's a validator's turn to add new information, they are rewarded with the blockchain's native token for honestly adding transactions to a block. If a validator incorrectly adds new information to the blockchain, whether intentionally or not, they will not receive a reward for doing a poor job.
On blockchains that rely on proof-of-work (PoW), miners spend a lot of money on electricity and computer hardware to have the right to add information to the chain and earn tokens as rewards. If they act maliciously or incompetently, miners are stuck with a major energy bill, thousands of dollars worth of hardware, and zero tokens (plus the possibility of being banned from future participation).
However, this system that Bitcoin pioneered has been widely criticized as a poor allocation of the world's resources for blockchain technology while it seeks mainstream adoption. As a replacement to PoW, staking tokens has become preferable to "staking an electric bill," and users gain the right to validate transactions by putting skin in the game through proof-of-stake.
For example, a PoS validator that stakes $10 million worth of tokens can validate up to $10 million worth of transactions. If they mess up, they will lose their staked tokens to fix their mistake. On the other hand, if they do their job correctly, they earn the blockchain's native token as a reward.
How the Average User Can Participate in Staking to Help Secure Solana
Blockchains that operate using a PoS consensus mechanism need a lot of validators to stake a lot of tokens to quickly and efficiently process transactions in a decentralized manner. That means a combination of technical expertise and capital on hand needs to be provided within one validator.
Users with the technical expertise and hardware necessary to operate a validator node can stake on behalf of users with less technical ability and tokens available for staking. Any user can delegate their tokens to a validator who will stake them on the network and then return some rewards to the owner of the tokens.
Each validator will have different terms and conditions, but users who delegate their tokens to a validator usually receive the lion's share of rewards. The terms and conditions of each network also vary, but on Solana, the current Solana staking rates are hovering around 6% per year (variable).
Staking tokens also requires a minimum amount of time for users to continue staking. For instance, Solana staking requires users to lock their tokens for a whole epoch, which usually lasts around two days. Note that some blockchains require a "cooling off period" before tokens can be withdrawn after they are unstaked.
If users want to stake Solana SOL, they can find validators on Solana Beach. Solana Beach shows a wide range of statistics about staking with a validator, but one of the biggest concerns for Solana staking is supporting a validator outside of the super-minority, as raising the staking abilities for smaller validators increases Solana's Nakamoto Coefficient.
It's also possible to stake Solana and earn Solana staking rewards from liquid staking pools such as:
Each of these protocols does a lot of the hard work by choosing worthy validators, and they also provide users with a liquid staking token that earns yield from staking and can be used in DeFi. So, it's possible to earn yield from staking SOL and borrow USDH simultaneously against a liquid staking token that's earning yield.
The Difference Between Staking and Everything Else That's Not Staking
There's a huge difference between staking crypto and what many people and protocols call staking. For example, the terms USDC staking and USDT staking are purely advertising words for lending, which is what users do when they "stake USDC" or "stake USDT" with an exchange or CeFi protocol. Stablecoins are not used to secure a network.
Differentiating between crypto staking and everything else isn't just mincing words to be pedantic. The consequences of lending to a counterparty without the mediation of a smart contract with a liquidation mechanism—essentially lending without the guarantee that the counterparty can be liquidated on-chain to help repay their loan—can mean a total loss of funds should the counterparty become insolvent.
When staking assets with a protocol that promises yield but does not explain where it comes from, the most likely explanation is that deposits are re-hypothecated (used to try and generate profit by other means, such as additional lending or investments in assets with exposure to the market).
Depositing tokens into a protocol's black box is an entirely different risk profile from staking with a validator to help secure a network.
It's Possible to Stake with Protocols Without Providing Network Security
There are other kinds of staking in DeFi that do not involve securing a blockchain network but can be legitimately called crypto staking. From a user's point of view, the actions are the same: users deposit or lock their tokens in a smart contract, and then they receive rewards.
Crypto tokens are a mechanism for driving cooperation, like a carrot dangled in front of a horse. Providing protocol rewards for users to lock up their tokens instead of trading them for stablecoins or other crypto is an incentive for cooperation, which helps protocols sustain their runway for development.
This form of staking isn't lending, because the protocol isn't using these tokens while they are locked. It also counts as staking since users are "taking a stake" in a protocol with a show of support that removes a protocol's native tokens from the market while at the same time exposing users' locked positions to the market.
How Staking Tokens Helps Crypto Grow
As mentioned before, staking tokens can help a blockchain network function efficiently. Proof-of-Stake blockchain networks like Solana have the potential to onboard millions of users without placing a burden on society through energy consumption, and this can lead to more sustainable growth potential for the industry.
Staking helps a network process transactions securely, and it can also have added benefits to the growth of protocols built on a blockchain. There are a few ways users can stake their tokens with protocols at the Layer 1 and application level, and each of these options help align users with protocol growth through staking.
At this point in the development of blockchain technology and staking, each token staked is a kind of vote for the future of a protocol. Each vote can be returned with rewards, and the growth of the industry works hand-in-hand with the cooperation of users participating in DeFi and Web3
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