Important concepts

What is a wallet?

In short, a crypto wallet is a mechanism that can be used to communicate with a network of blockchains. Different forms of the crypto wallet can be split into three groups: software, hardware, and paper wallets. They can also be referred to as hot or cold wallets, depending upon their working mechanisms.

Most crypto-wallet providers are software-based, making their use more convenient than hardware wallets. Hardware wallets, however, prove to be the safest option. On the other hand, paper wallets consist of a “wallet” written on a piece of paper, but their use is now considered outdated and inefficient.

How do wallets work?

Contrary to common opinion, crypto wallets do not store cryptocurrencies in real terms. Instead, they have the appropriate tools to communicate with a blockchain. In other words, these wallets will produce the information required for sending and receiving cryptocurrency via blockchain transactions. Such details comprise, among other things, one or more sets of public and private keys.

The wallet also contains an address, a created alphanumeric identifier based on public and private keys. In essence, such an address is a specific “location” on the blockchain to which coins can be sent. That means you can share your address with others to collect funds, but you should never reveal to anyone your private key.

The private key gives access to your cryptocurrencies no matter which wallet you’re using. But even if your machine or mobile gets hacked, you can still access your funds in another system as long as you have the right private key (or seed phrase) on it. Note that the coins never really leave the blockchain; they are simply passed from one address to another.

Hot vs. Cold Wallets

Crypto wallets can also be described as “hot” or “cold,” depending on how they work.

A hot wallet is any wallet that is somehow linked to the Internet. For example, you’re depositing into Binance ‘s hot wallet when you build a Binance account and send funds to your wallets. These wallets are quite easy to set up, and the funds are accessible quickly, making them useful for traders and other regular users.

Cold wallets, by comparison, have no Internet access. They often use a physical medium to store the keys offline, rendering them immune to attempts to hack online. As such, cold wallets appear to be a much safer “housing” alternative to your coins. Also known as cold storage, this approach is especially suitable for long-term investors, or “HODLers.”

Binance only keeps a small number of coins in its hot wallets to secure users’ funds. The rest is kept in cold storage and is removed from the Internet. Noteworthy for users who choose not to keep their funds in a centralized market. It is a decentralized trading network that allows you to have full control over their private keys, while still trading directly from their cold storage devices (hardware wallets).

Anton Kovacic
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