Staking basics: Proof of stake and rewards

How to earn rewards by helping to secure a blockchain network.

When you enter the world of decentralized finance, one of the first terms you will encounter is "staking." At its core, staking is the process of participating in the validation of transactions on a proof-of-stake (PoS) blockchain. This guide to staking basics will explain how you can earn rewards while contributing to the security and stability of the networks you believe in.

What is staking?

Early blockchain networks, like Bitcoin, are secured by a process known as proof-of-work (PoW). In PoW systems, "miners" use high-powered hardware to solve complex mathematical puzzles. This requires significant electricity and technical overhead. While effective, it has led to concerns about environmental impact and centralization due to the cost of equipment.

Modern networks like Ethereum (since "The Merge"), Solana, and Cardano use a more efficient system called Proof of Stake (PoS).

Instead of using electricity to solve puzzles, these networks are secured by people who "stake" their tokens. By staking, you are providing a form of collateral that allows you to participate in the process of verifying transactions and adding new blocks to the blockchain. In exchange for this service, the network pays you a portion of the transaction fees and a share of newly issued tokens. Think of it like being a shareholder who receives a dividend for holding and "committing" your shares to the company's operations.

How your staked assets secure the network

When you stake your assets, the network's protocol randomly selects validators from the pool of people who have staked their coins. The more you stake, the higher your chances of being chosen to validate a block and earn the associated reward.

If a validator attempts to verify fraudulent transactions or fails to stay online, they risk losing a portion of their staked assets. This is known as "slashing." Because everyone in the pool has "skin in the game," the network remains honest and secure without the need for a central authority like a bank or a government agency.

Methods of staking: From beginner to pro

There are three primary ways to participate in staking, depending on your technical expertise, the amount of capital you have, and the level of control you want over your private keys.

1. Staking on a centralized exchange (CEX)

Platforms like Coinbase or Kraken allow you to stake your assets with a single click. This is by far the simplest method because the exchange handles all the technical work, manages the validator hardware, and ensures 24/7 uptime.

Benefits: No technical knowledge is needed, and you can often start with very small amounts (sometimes as little as $1).
Risks: The exchange typically takes a commission (often 15-25% of your rewards). Most importantly, you are trusting the platform with your assets—the old crypto adage "not your keys, not your coins" applies here.

2. Liquid staking protocols

Liquid staking has become incredibly popular because it solves the problem of "locked" capital. Protocols like Lido or Rocket Pool allow you to stake your assets (such as ETH) and receive a "receipt token" (like stETH) in return.

Benefits: Your underlying assets are actively earning rewards, but you still have a liquid token that you can trade, sell, or use as collateral in other decentralized apps (dApps).
Risks: You are relying on the security of the protocol's smart contract code. Additionally, the market value of your receipt token could temporarily drift away from the value of the underlying asset during times of high market volatility.

3. Native staking and delegation

This is considered the "gold standard" for security and decentralization. It involves using a private non-custodial wallet (like Phantom or MetaMask) to "delegate" your voting power to a professional validator.

Benefits: You typically earn the highest possible yield because there is no middleman exchange taking a large cut. You also contribute more directly to the decentralization of the network.
Risks: This often requires a "lock-up period" or unbonding period. For example, on the Cosmos network, it might take 21 days to get your assets back after you decide to stop staking. You also need to manage your own wallet security.

Understanding APY, inflation, and true returns

Staking yields for major, established assets typically range from 4% to 12% per year. This is often quoted as APY (Annual Percentage Yield). However, it's crucial to distinguish between the nominal yield and the real return.

High yields (50% or more) are often found on "inflationary" coins. If a network prints 20% more tokens every year to pay stakers, but the demand for the token doesn't grow, the price of the token may drop. You might end up with 20% more tokens that are worth 30% less than when you started. Always look at the "inflation rate" of a token alongside its staking APY to understand the true value being generated.

Staking evaluation checklist

Before you commit your capital to a staking position, run through this quick checklist to ensure you aren't taking on more risk than you realize:

Asset Quality: Are you staking a coin you actually want to hold for 1-3 years? Don't stake a "garbage" coin just because the yield is high.
Lock-up Durations: Does the network have an unbonding period? If you need your cash in 48 hours to pay rent, native staking might not be for you.
Slashing Conditions: Does your chosen validator have a good track record? Check their "uptime" stats on blockchain explorers like Etherscan or Solscan.
Commission Rates: If you are delegating, how much is the validator taking? A 5-10% commission is standard; 100% means they are keeping all the rewards for themselves.

Staking is one of the most powerful tools in the crypto yield arsenal because it allows you to participate in the growth of a protocol while earning a predictable reward. In the next chapter, we look at liquidity provision, which offers potentially higher returns but comes with a different set of technical risks.