You’ve decided that staking your crypto sounds like a good idea. Congratulations!
After all, you plan on holding anyway, so why not get some staking rewards while you’re at it?
If you’re anything like most crypto holders, one of your first thoughts is whether you should stake on an exchange and whether that’s a good idea for your particular situation and the amount of coins you’re thinking of staking.
In this article, we won’t try and convince you to “go solo” or use other staking solutions, because we realize that every staking solution has its pros and cons.
Instead, we will look into some of the main risks of staking crypto on exchanges and how you can minimize them or avoid them altogether by simply looking for another exchange to stake with.
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The Risks Of Staking Crypto On Exchanges
While we’ve all heard the crazy stories about exchanges getting hacked, funds being magically lost, and we really don’t want to be part of that statistic, the risks of staking crypto on exchanges are often discounted by most of those who are just starting out.
In fact, the vast majority of crypto holders who decide to use an exchange’s ‘Stake’ function are not even aware of any other option that might be available to them. They just want something fast and easy, which is completely understandable.
If that’s how you feel, these are the risks that we feel are most significant, and how you can minimize their impact on your stake.
1 Not Your Keys, Not Your Crypto
Probably the eternal #1 on the list of risks of staking crypto on exchanges is the fact that they’re custodial. That means that they hold your private keys for you. For some people, it can actually be a benefit, as holding your own keys can lead to a lot of pressure, fear of losing them, theft, natural disasters, and other ways keys could be lost.
At the same time – not holding your own keys does go against the ethos of crypto. Most of us remember the curious case of the Canadian Quadriga exchange, which had the CEO mysteriously pass away, holding the company’s private keys to $250,000,000 in customer assets.
When the keys to your assets are not in your hands, you can’t really know what practices the exchange uses to secure your funds, how safe they are, how they are being used exactly.
What happens if the exchange messes up? Some have messed up pretty big, like Fireblocks, losing over $75,000,000 in Ethereum after an employee forgot to back up some private keys. Yikes.
Or what if an exchange goes bankrupt? Or gets blocked in your country? Or halts all withdrawals right when you want to get out of your staking agreement?
These are all valid risks when you use an exchange for crypto staking.
While this particular risk of staking on an exchange cannot be completely avoided, a good idea would be to read the exchange’s FAQ and documentation to learn about the security measures that they use to keep your keys safe. Emailing support and asking directly is also a great idea, because it will also give you a glimpse on how fast you can expect to get help if something ever goes wrong.
If you can’t find anything, or the answers are unsatisfactory, you might want to consider another exchange.
2 Reduced Staking Rewards
Not exactly one of the risks of staking crypto, but definitely a drawback. When using an exchange, you can usually expect to give up a cool 15% to 40% of your staking rewards to the exchange. Some platforms will change this number based on your commitment and “Locking” duration. The longer you lock your funds for in the exchange’s staking protocol, the better your staking rewards would be.
If you don’t really care about the difference between 7.6% APY and 3.4% APY because you want a ‘set it and forget it’ solution, that’s totally fine. This is usually the case for smaller cap stakers.
However, as the amount you wish to stake becomes more significant, and taking inflation into account, reduced staking rewards definitely become a significant drawback and even a risk of staking crypto on exchanges.
The difference between 3.4% APY and 7.6% APY on a staking portfolio worth $50,000 for example would come to a net loss of $2,100 a year.
One of best things to do in this case (considering you do want to stake on an exchange and not look into any alternate staking solutions where you keep more of the rewards) is consider a longer commitment, or look for another exchange which offers slightly improved APY.
3 Hacks and Exploits
You would imagine that exchanges getting hacked would be ranked as the numero-uno risk, and it is indeed very significant, but we feel that as time goes on, the risk for significant hacks where staked funds are lost from reputable exchanges becomes less significant.
Exchanges these days may also have insurance against funds lost to hacking, so that’s also something to investigate when choosing an exchange to stake with.
At the same time, hacking still remains one of the risks of staking crypto on exchanges.
Even huge, well-established exchanges that have their logos on Formula 1 and UFC sponsorship deals can suffer pretty debilitating hacks.
So when choosing an exchange to stake with, it’s a good idea to check the company’s history and how it dealt with hacking attempts in the past. Were clients compromised? If so, were they reimbursed? Are there any assurances? Insurance? This is all important factors to consider before committing your coins.
In the same way that people say you judge a restaurant by how clean the washrooms are, you should judge an exchange by how well they handle crisis and offer support.
4 Contribution To Centralization
This is not exactly a risk to you, but more of a risk to the network itself. The more people stake with a certain exchange, the more the exchange’s wallet grows. The more it grows, the more voting power the exchange has, and the more centralized the blockchain gets.
This is less of a concern with major blockchains such as Ethereum 2.0 but when we’re talking about newer projects, it can become a problem if a large exchange sits on a wallet that has 40% of all the blockchain’s staked assets.
If you believe in a certain crypto project and you want to see it flourish, then one of the ways to help would be to research and see which exchanges have the largest crypto staking wallets for your asset, and then stake with one of the smaller exchanges.
You will be contributing directly to decentralization of the project, and in most cases, getting slightly better staking rewards because of using a smaller exchange.
At the same time, don’t forget to do your due diligence and research all the topics we covered above.
Should You Stake On An Exchange?
Staking crypto on an exchange can be a super fast and easy way to generate more tokens in a completely passive way.
Especially if you choose to stake on the same platform that already holds your coins.
And that is exactly what most smaller-cap investors choose to do.
Sure, the inherent risks of staking crypto on exchanges cannot be completely ignored, and that’s why if you have a significant amount you wish to stake, we would probably avoid that route and opt-in for one of the other “Best Crypto Staking Services” out there, or even stake independently.
But if not, and you just want a fast and easy solution, staking crypto on an exchange while keeping in mind everything that we discussed in this article is a totally acceptable way of getting into crypto staking with minimum effort.