People typically acquire cryptocurrencies by trading it with fiat on exchanges. You may have heard of such exchanges such as Bitfinex, Coinone, Kraken and GDAX. But there are some downsides of acquiring cryptocurrencies through this method. We’re talking about currency conversion fees, exchange transaction fees, entry strategies, and the dreaded wait for the verification of your exchange account.
If you are not up for all that, there is another alternative to acquiring your coins, and that is cryptocurrency mining. But it is not without risks. Let me lay it down for you.
What is cryptocurrency mining?
In one sentence, cryptocurrency mining is the act of performing brute-force mathematical guesswork to arrive at the correct solution (also known as Hash) for a cryptographic algorithm.
Think of a math competition, where the first participant who solves the puzzle wins the prize. This is also known as the Proof Of Work consensus protocol. It is how the cryptocurrency network comes to a consensus and verifies the transactions that have taken place, as well as protect against the “double spending problem” (the illegitimate spending of the same money twice). Upon verification, these transactions would then be added to the next block.
So why would miners mine and what prize will they get?
Block rewards and transaction fees
In order for cryptocurrency networks to operate smoothly, cryptocurrency miners are required in the network operations. These miners manage the transaction verification and global consensus. As a reward for mining, a fixed amount of cryptocurrency is given to the first miner to arrive at the correct hash.
Let’s say you were mining the cryptocurrency Bitcoin (BTC). Being the lucky miner of that hash would net you a cool 12.5 bitcoins at this current time. Not only that, but the miner would also collect a bonus from transaction fees. Because the primary purpose of the Bitcoin network is for the record-keeping of the digital currency, users who record their transactions into the network will have to pay for the transaction fees.
In effect, for users transferring bitcoins on the Bitcoin network, they pay their transaction fees in bitcoins. Things are slightly different for the Ethereum (ETH) network, where users pay for their transaction fees with Gas, which can be purchased with Ether.
But finding this hash is extremely tricky. Here’s why.
The deeper details of cryptocurrency mining
Diving beneath the surface, cryptocurrency mining involves producing millions of hashes and testing every single one with the network to find that one special hash. It is literally finding a needle in a stack.
Using Bitcoin as an example, the hash is a 64-digit hexadecimal number. That is an enormous amount of guesswork involved. Not only that, the difficulty of the hash is continually rising to maintain the average solving time at 10 minutes. Approximately two weeks will pass before the difficulty rises, which ranges between 1% to 21%. Occasionally, when the network transaction speeds are slowing down, the difficulty would drop instead, hence speeding up the transaction time.
Now, with a deeper understanding of the inner workings of cryptocurrencies, here is a typical process of how someone would go about cryptocurrency mining.
Executing cryptocurrency mining
Firstly, they would acquire any computing device, though it should be noted that different types of devices would have varying levels of mining efficiency. The equipment can vary and range from just one GPU (Graphics Processing Unit), to a mining rig with multiple GPUs, or even multiple ASICs (Application-Specific Integrated Circuit).
However, you would not start mining directly as a solo miner. Remember, the hash for Bitcoin is a 64-digit hexadecimal number. This means that someone would have to be extremely fortunate to find the hash. Instead, cryptocurrency miners nowadays typically pool their individual computing power, also known as hashrate, together into a mining pool.
Consequently, with the vastly superior combined hashrate of the mining pool, there is a far greater chance of being the first to arrive at the hash and receiving the reward. This reward is then divided among the miners according to the proportion of hashrate contributed.
The big question: Should you do it?
As with all business decisions, the benefits, costs, and risks involved should all be weighed out before arriving at a decision.
The bottom line is earning digital coins and converting them into cash. The amount of money earned can range between a couple dollars a day to thousands of dollars a month.
In comparison to other forms of investment, the payback period on owned equipment is much shorter. It typically ranges from a couple of months to over a year.
In seasonal countries, cryptocurrency mining can be an unexpected but practical source of heat. Continually running a mining rig can act as a substitute for a warmer.
Running the cryptocurrency mining rigs 24/7 consumes a great deal of electricity, and vastly higher electrical utility bills can be expected. Therefore, it is usually advisable to do cryptocurrency mining within regions with lower electrical tariff rates.
Also, by using mining pools, monthly mining pool fees are incurred. These are charged by the administrators and owners in order to cover the operational costs of the mining pool.
And depending on the size of the mining rig involved, the upfront equipment costs can be rather hefty.
Not forgetting, it is a very time-consuming process of researching different cryptocurrencies, mining pools and software in order to optimize the mining efficiency and profitability.
Because the price levels of cryptocurrencies are always fluctuating, and large movements can be expected on a month-to-month basis. Paper losses have the potential to materialize into actual monetary losses.
And while it is rare, hacks could happen to any organisation and affect all related parties. High-profile hacks have happened on several cryptocurrency enterprises, and notable cases include Mt. Gox, Coincheck and NiceHash.
Ultimately, cryptocurrency mining is about passively earning money without actively putting in the work. However, bear in mind to do your own due diligence before proceeding ahead. Here’s a great resource to provide you with clearer expectations of mining profitability.