If you own cryptocurrency, it is important to keep it in a place that is safe and secure from cyber thieves.
Like a five-dollar note, cryptocurrency is kept in wallets. However, unlike the wallet you keep in your pocket, a crypto wallet is a tool necessary for sending, receiving and storing your digital assets. There are several types of cryptocurrency wallets. This article will give an in-depth overview of the different types and which might be the best option for your storage needs.
What is a crypto wallet?
A crypto wallet is a mechanism that can be used to interact with digital assets on a blockchain network. In simple terms, when you own cryptocurrency, it will be stored in a wallet. There are three major types of crypto wallets: software, hardware, and paper.
Software wallets are more common as they are considered more convenient for users to interact with different cryptocurrencies. Hardware wallets, on the other hand, offer more security as they have no connection to the internet. However, this makes them a little less accessible. Lastly, paper wallets refer to keys being printed on a physical piece of paper and hidden in a secure location.
How does a crypto wallet work?
All units of cryptocurrency in existence are stored on the blockchain, which can typically only be accessed through crypto wallets. Each of these wallets has a key to unlock and access the funds inside. No matter what type of wallet you have, your keys are how you access your crypto. A wallet uses two types of keys: a public key and a private key. Your public key is a cryptographic code that anyone can send transactions to, sort of like a bank account number or email address. Your private key, on the other hand, works similar to your bank PIN. This is the key required to access the assets within your wallet.
When you create a new wallet, you will receive what’s called a seed phrase. A seed phrase is a sentence comprising a random combination of words. Your seed phrase allows you to access your crypto from anywhere, even if you lose your wallet. It is very important to write your seed phrase down and keep it in a safe place. It’s risky to put your seed phrase on a computer or your smartphone as people could potentially access it.
Types of crypto wallets
Hot wallet vs cold wallet
Crypto wallets can be categorised as either ‘hot’ or ‘cold’, which ultimately depends on internet connectivity. A hot wallet is connected to the internet. The most common hot wallets are those connected to cryptocurrency exchanges. For instance, when you sign up for a Swyftx trading account and purchase cryptocurrency, the asset will automatically be stored on the wallet/s integrated with your account. Hot wallets are convenient and easily accessible.
In contrast, a cold wallet is not connected to the internet. Instead, cold wallets refer to storing private keys on a physical medium. This is done to prevent the threat of online hacking. Cold wallets are considered a safer alternative to storing cryptocurrency than hot wallets and are quite suitable for long-term ‘HODLers’ of digital assets.
Key Takeaway
Hot wallets are connected to the internet. The most common types of hot wallets are exchange wallets and software wallets. They are very convenient but can be less secure. Cold wallets are isolated from the internet. The most common types are hardware wallets and paper wallets. They are extremely secure but more inconvenient.
Software wallet
Figure 1 – Software wallet MetaMask
There are several types of software wallets, however, one unique characteristic that software wallets all have in common is that they’re connected to the internet, making them hot wallets. Below is a list of the most common types of software wallets.
Web wallets
Web wallets are used to access different blockchains through a browser (i.e. Google Chrome). They can be hosted or non-hosted. Non-hosted web wallets are considered more secure as the private key and funds are always in your control. Some examples include MetaMask and Trust Wallet.
Desktop wallets
Desktop wallets are software applications you can download onto your computer, giving you full control over your keys and funds.
Mobile wallets
Mobile wallets are similar to desktop wallets, but are designed specifically for smartphones. Users can conveniently send and receive crypto through the use of QR codes.
Hardware wallet
Figure 2 – Three different hardware wallets
A hardware wallet is a device where you can store your keys offline. This type of cold wallet is completely separate from your computer or smartphone, and most importantly, separate from the internet. Hardware wallets typically look like a USB, however, they are actually just a very small computer with a tiny screen, a few buttons, and their only function is to store your keys and sign transactions. When you want to send or receive crypto, all you need to do is connect the wallet to your computer and download its native software — known as a ‘bridge.’ This will allow you to begin preparing your transaction. Once the hardware wallet receives the transaction, it signs it on the wallet and sends the data back to the computer.
Paper wallets
Another cold storage wallet option is paper wallets. These are exactly as they sound — a piece of paper that has your public and private keys on it. This could include QR codes, written addresses, or seed phrases. The downside of a paper wallet is that it can easily be destroyed, and it is hard to send and receive from. This form of crypto storage has faded in popularity over time, but can still be used as a solid backup option to other, more popular methods. It should almost never be your primary wallet, however.
Important To Remember
Bitcoin and Ethereum, unlike fiat money, have no physical manifestation (which is the same for most other cryptocurrencies). Paper wallets vary from ‘hot’ wallets in that they are not connected to the internet. They do not, however, store real Bitcoins or crypto. A paper wallet is simply a piece of paper that holds the keys or QR codes for facilitating cryptocurrency transactions.
What type of wallet is right for you?
The most common way to store crypto is to have both a cold wallet and a hot wallet. You can then take advantage of the benefits of each. If you have large sums of crypto or digital assets you are intending to hold long-term (HODL), put them on your cold storage/hardware wallet and keep that in a secure place. Some people keep them in a secure location like a safety deposit box. Then, you can use your hot wallet for all your trading activity when you want to buy, sell, or send your Bitcoin or other digital assets. This type of secure, long-term storage strategy could be favoured by those using a Self-Managed Super Fund, for example.
Summary
It is important to keep your crypto in a safe and secure place. Crypto wallets are necessary for investors and traders to store and manage their cryptocurrency portfolios. This article has explored the different types of crypto wallets and explained the benefits of each. To learn more about any of the specific terms used in this article, check out some of the other great pieces on the Swyftx Learn platform!
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