by Merlin Rothfeld, Online Trading Academy
The road toward accepting and embracing cryptocurrencies as a mainstream asset has suddenly become a superhighway, as more and more investors and businesses hop on and head toward the financial future. It’s an exciting time for investors, but if you don’t know how to keep your cryptocurrency safe and secure, you could easily crash, burn and lose everything in an instant. It’s all about keeping control.
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One of the biggest hazards out there is the growing number of fake cryptocurrencies. They can be created quickly and easily with the sole purpose of scamming money out of investors who don’t know what they’re doing. Your first step to keeping your assets safe is to make sure you invest in a cryptocurrency worth securing. Research the coin, understand its purpose and do your due diligence before you invest anything.
I want to buy some cryptocurrency. How do I keep it safe?
There are two basic elements to all cryptocurrencies, a public address and a private key. To help better understand how they work, imagine a house and assume that the only way you can enter it is through the front door with a key. Everyone knows where your house is; you provide people and businesses with your address all the time. Online maps can even give anyone a good look at it. Your home’s address is public knowledge.
Now, imagine that house as the place where you store your cryptocurrency. That’s called your public address. You can share it with other people to have money delivered to it, and they can even see how large your house is and how much money you have inside. But there is absolutely no way they can get in without the other element of a cryptocurrency, a private key. It’s that private key that safeguards everything inside, and it’s a very, very elaborate key consisting of a random series of alpha-numerical characters, impossible to guess correctly. The only way anyone can get that key from you is if you give it to them or you lose it. If someone has your private key, they have access to everything in the house.
Just how safe is a private key?
Think of a lock with a 4-wheel combination. A thief has a 1 in 10,000 chance of guessing the combination and breaking in; good odds for the thief, bad for you if that lock is protecting something extremely valuable. A 10-wheel combination lock is more secure, with a 1 in 10 billion chance of someone guessing the combination. On the other hand, a bitcoin private key is a series of 51 alphanumeric characters with a 1 in 1,461,501,637,330,902,918,203,684,832,716,283,019,655,932,542,976 chance that someone will crack it. You’d have better odds of winning the lottery, getting struck by lightning while being attacked by a great white shark and running into your exact twin all at once. Yes, a private key is very safe.
Who controls my private key?
That’s the million-dollar question. Your private key gives you complete ownership to all digital assets stored at your public address and complete control to move them whenever you want. As long as you hold your private key, you have absolute control over your cryptocurrency. The only risk is losing your private key. Exchange sites such as Coinbase or Poloniex store your private keys, and while the sites themselves may be relatively secure, they are still susceptible to hacking. Not only that, but you no longer have control of your private key, adding uncertainty and a degree of risk to your assets. It’s like a financial institution holding your money in an account; you assume your bank has it, but how do you know your money is really there?
I’ve read about instances where Bitcoin was hacked, and people have lost a lot of money. What about that?
There has never been a recorded case of anyone directly hacking a private key to any cryptocurrency – ever. Bitcoin has never been hacked. What has been hacked are the exchange sites that hold your private keys; not someone directly hacking a private key. They are just too hard to crack. The most notorious example of an exchange site hack was in 2014 when Mt. Gox, the largest Bitcoin exchange in the world at the time, went dark and announced a theft of approximately 850,000 bitcoins. Exchange sites are vulnerable to hacking, your private key is not.
OK, so where do I store my cryptocurrency? What’s a “wallet”?
A wallet provides you access to your public addresses and private keys. It doesn’t “store” your cryptocurrency – your money is in the blockchains and digital ledgers of the cryptocurrency itself. There are many wallets to choose from, and all either use “hot” or “cold” storage. A hot wallet means that it’s connected to the internet, with the ability to access your funds via an app on your computer or mobile phone or through a web-based platform. The good thing about hot wallets is that they are easy and convenient to use. The bad thing is that since they are connected to the internet, they are vulnerable to hacking and much less secure. If you lose your phone, unless you have backed up your wallet, it’s possible for someone to unlock it, hack your wallet and use your private keys to steal your funds. A hot wallet with dual-factor authentication, requiring you to input a one-time code via text or email, will add another level of security, but since they are connected to the internet, hot wallets will always be vulnerable to hacking.
Cold wallets are a much more secure way of storing your cryptocurrency. There are no online connections and no risks of hacking. Cold wallets can be printed out on paper or stored on a nano ledger, secure hardware that looks like a small flash drive. The hardware holds your private and public keys, accessible by connecting the drive to your computer, and extracted using an encrypted app. Paper wallets are easy to create using websites like bitaddress.org, which allow you to create a random address online and a private key offline. You simply print out your keys and keep them safe from damage where you won’t forget them. Since they are harder to access, cold wallets work better for long-term storage of large amounts of cryptocurrencies. Just remember that the risk of storing your cryptocurrency in cold wallets is all on you. If you don’t have a backup of your hardware or a copy of your paper wallet and it gets eaten by your dog or destroyed by fire or water, your money is gone for good, without recourse.
Not all wallets support all cryptocurrencies. It’s important to research what type of wallet works best with the type of coin you are buying or trading.
Why can’t I just keep my money on an exchange site?
Because exchange sites store your private keys, and the sites themselves are vulnerable to hacks and theft. Exchange sites also charge transaction fees that can quickly add up, and because the sites hold your private keys, you lose the most important element of keeping your cryptocurrency secure – control. Exchange sites like Coinbase and Poloniex do provide valuable services: it’s not only easy to buy multiple currencies, you can also trade them using accessible charts, stop orders and market orders–just like a trading platform. The best way to use an exchange site is for purchasing, trading or selling cryptocurrency, then moving any private keys to your own wallet, especially if they represent large amounts of currency.
What are the risks of storing my cryptocurrency in a wallet?
You can lose your private key
The biggest risk with storing your cryptocurrency is losing your private key, no matter which method you choose to store it. And the easiest way to do that is by giving it to someone else, which includes exchange site that retain your private keys. If you have a paper wallet, it’s vulnerable to fire and water damage, being accidentally tossed in the trash or you just forgetting about it. When you lose a private key, there is no way at all to access the funds, and no recourse in getting the key back.
Your private key could be stolen
If your wallet is stored on a computer, it’s susceptible to virus and malware that specifically target private keys. If they can access your computer, they can find those keys.
Your computer could be hacked
Although it’s impossible to hack a private key, it is possible to hack your computer or an exchange site holding your private keys.
You don’t have any backups of private keys
You don’t have any backups of private keys, unless you create them yourself that is. There are secure digital backup programs for mobile devices, computers and nano ledgers. Copies of paper wallets should be stored in a secure place such as a safe or a safety deposit box.
You can’t eliminate all the risks to storing your cryptocurrency, but you can eliminate the major ones. Identify the threats, address them and then take the proper steps to keep your assets safe and secure. Be cautious, not wary – cryptocurrencies by design are safer than money in the bank. The responsibility for keeping them secure, however, is all yours.
Previous article in this series:
Cryptocurrencies 101 – Simple Answers To The Questions You’re Too Embarrassed To Ask