Staking has become one of the most popular ways to earn passive income when holding cryptocurrency assets. By locking away digital coins and thereby supporting an associated blockchain, crypto investors can earn rewards. However, like cryptocurrency mining, where rewards increase with the amount of computational power sacrificed, staking rewards increase with the number of cryptocurrency coins locked. This bias can leave smaller crypto investors unable to compete with crypto-staking whales.
Fortunately, staking pools provide an answer for those who are wondering how to stake crypto with a smaller amount. Individuals can utilize a wide array of staking pools to easily and effectively participate in blockchain staking. In this guide, we will discuss why staking pools were developed, how staking pools work, evaluate the potential benefits of joining, and identify the factors to look out for when choosing your own.
What Is Crypto Staking?
Staking cryptocurrency is a concept associated with Proof-of-Stake blockchains. The process involves locking away cryptocurrency coins to support the validation and security of transactions sent across a blockchain network. PoS blockchains rely on a network of validators. Each validator node checks and secures all transactions sent across the network and, for doing so, receives block rewards. Cryptocurrencies such as Avalanche, Cardano, and Solana all rely on a network of validators to operate. However, validator selection in a PoS blockchain is far from uniform.
The frequency of validator selection, also known as ‘staking power’, is dependent on the number of cryptocurrency assets locked. The more cryptocurrencies that are locked in a network, the greater the odds that a validator will be called upon to process transactions. This positive correlation between locked assets and validator selection is why staking pools were developed. For more information, read our guide on the staking process and how it works.
What Is Staking Pool?
A staking pool is a service that allows individuals to pool staked assets together. Staking pools offer investors a way to increase the likelihood of being selected; which improves the frequency of rewards. Using a staking pool also helps to lower the costs that may otherwise be associated with establishing an independent validator node.
For example, to become an independent Ethereum validator, an investor needs to lock away a minimum of 32 ETH. For many, the minimum of 32 ETH is too high, which is why many choose to stake Ethereum through a staking pool. Those investors with less than 32 ETH can combine their digital assets with others to earn ETH staking rewards.
In addition to the benefit of pooling resources, using a staking pool may also reduce the length of time an individual is required to lock tokens. Many blockchains require tokens to be locked for a set period of time. While some crypto staking pools abide by the same rules, others do not implement a locking period, which allows investors to keep their digital assets liquid.
How Does a Staking Pool Work?
Staking pools allow individual cryptocurrency investors to pool digital assets together so that they can be used to support a validator node within a blockchain. The validator node is run by a stake pool operator that will initiate the staking pool setup. It is their responsibility to process transactions and gain a good reputation amongst all validators within the associated network. Staking pool administrators are also responsible for setting up the technical side of the staking process, which means that staking pool users can be up and running almost instantly. For offering the services of a staking pool, a small operations fee may be charged.
How Much Can You Earn With A Staking Pool?
Crypto staking pools are a beneficial way to generate a yield from otherwise idle digital assets. But yields can vary based on 4 main factors: 1) the blockchain chosen, 2) the number of coins staked, 3) the length of time, and 4) the fees involved. All validators are rewarded for processing transactions, however, the level of inflation (i.e. rewards) varies from blockchain to blockchain. In July 2022, participants can stake Solana has an estimated reward of 5.02% APY, whereas the rewards for staking Avalanche will yield an APY of 8.68%.
The rewards collected from different staking pools are then dependent on the number of staked tokens. Rewards are usually distributed proportionally to an investor’s holdings within the staking pool. If an investor contributes 4-5% of the entire staking pool, that investor will earn 4-5% of all staking rewards.
Each staking pool offers a slightly different fee structure. While fees typically range from 3% to 6%, there are many pool operators that can charge far more. For higher prices, staking pool operators may offer other incentives, such as instant withdrawals or decentralized nodes.
How much an individual can earn is dependent on the price of the associated coin. If the underlying price of a coin depreciates, an investor may end the staking period with a lower dollar value than when they started. An investor would then need to wait for prices to appreciate before selling the initial staked capital, plus rewards, for a profit.
Can Staking Pool Rewards Be Increased?
Earnings can be increased if the cryptocurrency is staked for a longer period. The longer that assets are left in a staking pool, the higher rewards will become. Some crypto staking pools can even allow for a compounding effect and stake rewards on a user’s behalf, boosting an investor’s staked tokens.
What are the Advantages & Disadvantages of Staking Pools?
While staking pools offer many advantages for smaller cryptocurrency investors or investors that don’t have free time, these tools are not without their disadvantages. Before joining a staking pool let’s take a look at both the upsides and potential staking risks.
Advantages Of Joining A Staking Pool
- Combine resources. Staking pools improve the likelihood that smaller cryptocurrency investors can earn reasonable staking rewards. Some blockchains require a minimum number of coins to establish an independent validator node. There is usually no minimum number of coins required to join a staking pool.
- Put idle digital assets to work. Many cryptocurrency assets can sit idle within a digital wallet and earn no yield. Staking pools allow investors to earn more cryptocurrency while still enjoying potential capital appreciation.
- Removes technical aspects. Staking pools are run by a pool operator. It is the pool operator’s responsibility to establish a validator node or nodes and validate transactions that are sent across a blockchain. It is then up to the pool operator to distribute rewards.
Disadvantages of Joining a Staking Pool
- Fees. Unlike establishing an independent validator node, using the services offered by a staking pool will require a fee. Fees are usually collected from rewards and can, therefore, eat into profits.
- Lower rewards. As a result of the fees collected and the sharing of rewards among a group of other investors, rewards from staking pools are lower than if coins were staked directly.
- Malicious pool operators. While the majority of staking pools are established with the best intentions, there have been examples where pool operators leverage the digital assets of others for their own means. Malicious behavior may include stealing rewards or not fulfilling the role of validator correctly.
- Handing over control of coins. Cryptocurrencies can sometimes need to be held within a specific blockchain address for staking to take place. This may involve handing control of private keys to a third party. When an individual does not have control of their private keys, they do not have true control of their digital assets.
Are Cryptocurrency Staking Pools Safe?
The majority of staking pools are completely safe. However, it is always important to do research and determine the reputation of a staking pool before depositing funds. There are several aspects to review before joining which include the pool's reputation and the security of the crypto staking platform or wallet.
How To Choose A Staking Pool?
There is a variety of staking pools available within the cryptocurrency industry which means that individuals should have no problem finding one that suits their needs. However, there are 5 key aspects that every investor should look out for when evaluating different options.
- Reputation. The cryptocurrency industry is still relatively new. The lack of consistent regulations also means that anyone can establish a staking pool and begin charging for the services offered. This is why reputation is at the top of the list when it comes to factors to consider. Before joining a staking pool, look for reviews from both industry professionals and those that have used a platform before.
- Fees. For the services offered by a staking pool, a fee will usually be charged. However, instead of paying this fee upfront, the fee is usually removed from the staking rewards earned and is, therefore, usually described as a percentage. The higher the fees involved, the less staking rewards will be received. Fees can also increase or decrease quickly so it is important to keep up to date with all platform changes.
- Lock-up times. When staking directly, many blockchains require a lock-up period for coins. This can vary from a couple of weeks to several months. While not all staking platforms pass on these lock-up requirements to customers, the majority do, so it is important to become familiar with how long digital assets will remain illiquid.
- Reward rates. The purpose of staking is to generate yield on otherwise idle digital assets. While the rewards offered by different blockchains will not change, those same APYs might be advertised differently on different staking pool platforms. If there is a large discrepancy in APYs and it can’t be explained through fees, it might be worth looking at other staking options.
- Type of platform. Staking pools are a tool that has been incorporated into a range of different platforms including the top cryptocurrency exchange platforms, such as Kraken, Binance, and Coinbase, and also decentralized crypto platforms, such as Lido and Rocket Pool. While centralized platforms offer more security and are sometimes more convenient, decentralized platforms allow users to remain in control of funds and can offer higher returns.
Staking pools are incredibly useful for cryptocurrency investors that do not have the time or resources to become an independent validator node within a blockchain. While rewards may not be as high, staking pools remove many of the complexities involved and allow investors to start earning rewards quickly and passively. However, due diligence is key. It is crucial to evaluate a platform’s reputation within the industry, the fees involved, and the lock-up times required.
Importantly, whether opting for a staking pool or choosing to go solo as an independent validator, staking is a necessity for PoS blockchains. These blockchains rely on the support of the associated community to keep functioning. Staking not only generates yield from otherwise idle assets but it helps to support the wider cryptocurrency ecosystem.