With cryptocurrencies becoming more sought after and valuable, security has never been more paramount. There are many horror stories of people losing their cryptocurrencies; be it through fault of their own or falling victim to a cyber attack. Taking the time before you invest, to understand the basics of the cryptographic technology and how to safeguard your investment will see you a long way. Although often referred to as gold, cryptocurrencies are still software at the end of the day and as such have their own unique issues when being safeguarded.
Firstly, know that you are not actually storing a physical asset such as a Bitcoin, but rather your private key which allows you to interact with your cryptocurrency. For example, if you put one Bitcoin (BTC) onto a paper wallet, all that is being stored are the private and public keys allowing you to interact with that particular Bitcoin at a later date. Since the Bitcoin itself is on the blockchain you can access your funds from anywhere in the world (as long as you have the private key!). This also means that anyone else can access your funds, should they have a copy of said private key. Such ease of access is what makes the generation and storage of your private key so important.
What is the difference between a public and private key?
It helps to think of your wallet as a locked mailbox. The public key is the mailing address, which allows anyone to send to it, the private key is the only means to open the mailbox and interact with the funds inside. Therefore, sharing your public key (address) with someone is okay, whereas sharing your private key is not. As it is your only means of interacting with your funds, it is recommended to have multiple backups of your private key.
Bip 32 is a cryptographic protocol for making child keys from parent keys, this allows one private key to have multiple public keys (addresses). As the blockchain records all transactions and public keys, it becomes useful to use multiple addresses to obscure your funds from prying eyes.
There are a variety of ways to store your private keys. The rule tends to follow: the safer it is the harder it is to spend, making cold storage a good choice for those looking to hold onto cryptocurrencies long term.
By only having the cryptocurrency you plan to use on an exchange or mobile device, you reduce the risk of having all of your funds stolen from you at once. For example, you wouldn’t carry your life savings in your personal wallet when going shopping.
Wallets are the user interface for interacting with your cryptocurrency, they come in different varieties and each have their own positives and negatives. Typically the fewer number of features and less connectivity involved with your wallet, the more secure it is considered to be. Mobile wallets have multiple features and ways to connect, thus making them less secure.
It is recommended to have multiple backups of your wallet as it is the only means you have of accessing your funds. For the majority of wallets, the wallet.bat file contains the necessary information such as your private keys.
Remember that if you generate your private key on an infected machine and it gets copied, any and all safety precautions you take thereafter will be for nothing.
Hot wallets refer to wallets that are connected to the internet, be it a QT desktop wallet, web wallet or wallet on an exchange. Hot wallets are useful if you wish to transfer your coins frequently, stake your coins or use other features associated with the wallet such as generating addresses.
Due to the nature of their constant connectivity to the internet, hot wallets also represent a higher security risk. Cold wallets on the other hand, although debatable due to the nature of the blockchain, are wallets stored offline with no active connection.
Exchanges work using their own centralised ledger system and as such do not provide you with the private keys. Exchanges store all their customer funds in a couple of wallets and track the trades. When a customer goes to withdraw from their online exchange wallet, the currency is actually coming from a shared account. Should the exchange be hacked, become insolvent or have other issues, your funds are at risk. Note the expression “If you do not own the keys you do not own your cryptocurrency”.
Choosing the right method to protect your digital assets will largely come down to what you plan to do with them. Long term holders benefit from offline storage as they do not need to frequently interact with their cryptocurrency. Multiple backups ensure you are protected should one of your backup choices fail. Conversely, people seeking to use the currency more often will find mobile devices and web wallets better suit their needs. It is good practice to split your funds and only place those you wish to use on less secure devices like a mobile device or in an online exchange.
Paper wallets are a physical record of your private and public key which can be printed on any material. These wallets are considered cold storage as they have no active connection to the internet and are useful for people wishing to hold a cryptocurrency for a long period of time.
To generate an address you can use an open source random address and key generator, such as Bitaddress.org. This website uses your browser’s java engine to generate the key and as such does not require an internet connection to run.
Some desktop and web wallets offer a paper wallet printing feature, such as Mycelium and MyEtherWallet.com, thus allowing you to create paper wallets for making an Ethereum and ERC20 compatible paper wallet.
Hardware wallets are small USB like devices which store your private keys on a small computer. By performing the transactions in-device, you are able to keep your private keys safe when interacting with malware-infected computers. At present, there are two main companies who provide this utility: Trezor and Ledger.
Trezor cryptocurrency supported list: https://doc.satoshilabs.com/trezor-faq/overview.html#which-coins-are-currently-supported
When you set up your hardware wallet you will be prompted to write down your “seed words.” These words form a password that allows you to gain access to your device should it be lost or stolen. The seed words are generated by the companies’ open source software which can be viewed on their Github page.
Desktop Wallets / Mobile Wallets
Desktop wallets have come a long way since the original Bitcoin-QT wallet. Multi Asset Wallets such as Exodus allow you to store multiple cryptocurrencies in one location, it even integrates with shapeshift.io (a decentralized exchange) to facilitate the buying and selling of certain cryptocurrencies without the risk of transferring them to an external exchange.
Mobile wallets such as Mycelium, offer users the ability to carry their cryptocurrency around with them and spend them from their mobile device conveniently with the use of QR codes. Due to the weak security inherent in mobile phones, it is advised to only carry around the cryptocurrency you wish to spend. Similar to how you would treat your conventional cash wallet and savings account when you go shopping.
Cryptocurrencies offer a trust-less peer to peer base of exchange, removing the middleman barrier and thus allowing us more freedoms and responsibilities. Although leaving your digital assets on an exchange is convenient it is also risky. It is recommended to only send your crypto funds to an exchange when you plan to trade them.
Regardless of how you plan to use your cryptocurrency investment, adhering to good habits goes without saying, be it double checking send and receive addresses before sending, generating keys securely or having multiple backups of the same key in different locations. The saying “It is better to be safe than sorry” has never been more applicable.