Staking is often described as a way to “earn interest on your crypto.” It sounds almost like a bank deposit: put your coins somewhere, wait, and earn a return. But that comparison only goes so far.
Staking was not created as an investment product. It is part of the way certain blockchains operate. Users earn rewards because their cryptocurrency helps support the network.
Let’s look at how it works, where the yield comes from, and what risks may be hiding behind those attractive APY figures.
Let’s Start With the Basics
Staking means using cryptocurrency to participate in the operation of a blockchain that relies on Proof of Stake. On these networks, transactions are confirmed not by miners running powerful hardware, but by validators — network participants who help keep the system running, verify transactions, and create new blocks.
To take part in confirming transactions and producing new blocks, a validator has to commit a certain amount of cryptocurrency to the network as a stake. In return, the network pays a reward.
Regular crypto holders do not necessarily have to run a validator themselves. On many networks, they can delegate their coins to an existing validator and receive a share of the rewards.
Sounds Great, but There’s a Catch
Imagine an investor owns 1,000 coins from a particular project and plans to hold them for at least a year. If the cryptocurrency simply stays in a wallet, the number of coins will remain unchanged. But if it is staked at an assumed annual yield of 6%, the balance could grow to roughly 1,060 coins.
There is one important detail, though: staking returns are calculated in the cryptocurrency itself. If the price of the coin falls by 40% during that period, the extra 6% will not turn the investment into a profitable one. If the asset rises in value, on the other hand, the investor may benefit both from the price increase and from the additional staking rewards.
So a figure such as 6% APY should not be treated as a guaranteed 6% return in dollar terms.
Where’s the Money, Lebowski?
With a bank deposit, the bank uses deposited funds in its business and pays the customer interest. Staking works differently. If validators are receiving rewards, those additional tokens have to come from somewhere. Depending on the network, the source may be newly issued coins, transaction fees, or a combination of both.
For example, a project may offer a 20% annual yield while also issuing new tokens at a rapid pace. If the supply keeps growing while demand does not, the token price may fall. In that case, even earning 20% more coins may not help: if each coin becomes significantly less valuable, the total value of the portfolio may still end up below where it started.
So despite some similarities, staking is not a bank deposit. The phrase “crypto savings account” may sound appealing and can be useful when explaining the basic idea to a beginner, but financially the two are very different.
Which Cryptocurrencies Can Be Staked?
Staking is only available on blockchains where it is built into the consensus mechanism. Examples include Ethereum, Solana, Cardano, Polkadot, and Avalanche. The exact rules and potential returns vary from one network to another.
Bitcoin works differently. It is based on Proof of Work, so there is no native BTC staking. If an exchange or another service offers a product called “Bitcoin staking,” it is worth looking carefully at what is actually happening to the BTC. In most cases, the platform is using the coins for lending, DeFi, or another yield-generating strategy. In other words, the return is not coming from the Bitcoin network itself, but from a separate financial product. And that means additional risks.
Why Staking Yields Keep Changing
Bank deposit rates are often fixed in advance for a certain period. Staking yields, however, are usually variable.
They may depend on:
- the total amount of coins being staked;
- blockchain activity;
- transaction fees;
- the issuance of new tokens;
- the rules of the specific protocol;
- validator fees.
So the rate a user sees today may be very different a month or a year from now.
The more participants stake their coins, the more people are competing for the available rewards. On some networks, this can lead to lower yields.
APR vs. APY: What’s the Difference?
Crypto platforms commonly display two figures. APR is the annual rate without taking the reinvestment of rewards into account. APY is the estimated annual yield including compounding. If rewards are regularly added back to the stake, they can begin generating rewards of their own. That is why APY is usually slightly higher than APR. But both figures should still be treated with some caution.
For example, a 7% APY on ETH primarily means that, under certain conditions, you could end up with roughly 7% more ETH. It does not mean you are guaranteed to make 7% in dollars.
The Main Ways to Stake Crypto
There are several ways to participate in staking:
Running your own validator — the user sets up and maintains the infrastructure required to participate directly in the network. This gives the highest level of control, but requires technical knowledge, hardware, and in some cases a fairly substantial minimum stake.
Delegation — the user delegates their stake to an existing validator without running their own node. The validator handles the technical side and charges a commission on the rewards. For many crypto holders, this is one of the simplest ways to participate in native staking.
Staking through an exchange — the platform takes care of the technical side. From the user’s point of view, the process is simple: choose a cryptocurrency, enter an amount, and confirm the transaction. The main drawback is that the assets are effectively under the control of an intermediary, adding another layer of risk.
Liquid staking means that a user stakes cryptocurrency through a protocol and receives another token representing that staking position. That token can then be used in other DeFi protocols. This type of staking solves one of the main problems of traditional staking — having capital locked up.
But the added flexibility also brings new risks, from smart-contract vulnerabilities to liquidity problems and the reliability of the protocol itself. We cover the trade-offs in more detail in our guide to liquid staking.
What Can Go Wrong?
Can you lose money while staking? As you have probably gathered by now, definitely. And the biggest risk may have nothing to do with the technical mechanics of staking. In addition to a falling token price, delays when exiting a staking position can also become a problem. On some networks, coins cannot be unstaked instantly, which means an investor may be unable to sell during a sharp market decline.
There is also validator risk. If a validator performs poorly or breaks the rules of the protocol, its rewards may fall. Some networks also use slashing — a penalty that can result in part of the stake being lost.
If staking is handled through a centralized exchange, the investor also takes on the risk of the intermediary. Withdrawal restrictions, hacks, insolvency, or regulatory action can all affect access to the cryptocurrency.
In DeFi and liquid staking, funds interact with smart contracts, which means a bug in the code or an exploit of the protocol can lead to losses.
Token inflation is another possibility. A high staking yield may look very attractive, but if the network is simultaneously issuing large quantities of new tokens, the investor’s real return may be much lower than the headline figure suggests. That is why APY should never be considered separately from a project’s tokenomics.
When Does Staking Make Sense?
First of all, when an investor already intends to hold a particular cryptocurrency for a long period of time. If there are no plans to sell ETH anytime soon, for example, earning additional ETH through staking may make sense.
But if you come across a token offering 80% APY and are considering buying it purely for the yield, it is worth remembering that a high rate does not automatically make an asset a good investment. If anything, an unusually high APY is a reason to look more closely at:
- tokenomics;
- issuance;
- liquidity;
- the project’s track record;
- where the rewards come from;
- withdrawal conditions.
In crypto, higher potential returns almost always come with higher risk.
Before staking an asset, it is worth asking at least a few questions:
- Why do I want to hold this cryptocurrency in the first place?
- Where do the staking rewards come from?
- What is the token’s inflation rate?
- What is the actual APR or APY?
- Can I withdraw my coins at any time?
- How long does unstaking take?
- Who controls my assets while they are staked?
- What fee does the validator or platform charge?
- Is there a risk of slashing?
- What happens to my overall return if the token price falls sharply?
The last question is often the most important one.
