Cryptocurrency wallet is a basic user tool for interacting with a variety of blockchain networks. According to the original working method, they are divided into 3 large groups — software, hardware and paper. According to the work mechanics, they can be divided into “hot” and “cold”.
The vast majority of systems and companies that work with cryptocurrency provide software wallets to their users. This is more convenient since there is no binding to a specific material carrier. But for the same reason, hardware wallets are more reliable and secure. Approximately on par with paper records or data printouts. However, this type of wallets is outdated and not very convenient, so it is rarely used by anyone.
The working principles of cryptocurrency wallets
Despite the widespread belief, the currency is not stored directly in such wallets. It is rather a way to interact with certain blockchain networks using specially generated data, as well as the ability to carry out transfers and transactions. As the main methods of interaction, one or more pairs of public and private keys are used.
In addition, a wallet is also a public address generated on the basis of public and private keys, which is a combination of letters and numbers. This address determines the individual location of the wallet in the blockchain and provides the ability to transfer cryptocurrencies to it from third-party sources. Just indicating your public address is enough. It is worth remembering that there is also a private address, which, on the contrary, in no case should be shared with anyone.
The private address is necessary to ensure personal access to cryptocurrencies, without a specific hardware or software medium. That is, you can lose a smartphone with a wallet installed on it with a public address, but this will not give anyone access to a private address, so unauthorized access to your main cryptocurrency accounts will be denied. In addition, instead of a combination of numbers and letters of the private key, a seed phrase can be used to access this “personal storage”.
Hot wallets vs Cold wallets
As already stated, according to the work mechanics, all cryptocurrency wallets are divided into “hot” and “cold”.
Hot wallets are those that are constantly connected to the Internet. They are used when interacting with a variety of cryptocurrency exchanges by creating accounts on them and placing there a certain amount of currency. Due to constant communication, it is possible to quickly carry out various transactions. Therefore, they are preferred by both professional traders and ordinary users who are not particularly versed in technical features. But such a permanent connection is less reliable and more prone to modern hacking methods.
Cold wallets — those that occasionally connect to the Internet — are solely for interaction. Most often, this is a specific physical medium that serves as an offline key storage. And while there is no access to it, it is impossible to crack it. The simplest example is a flash drive with a program. This method of storing information is much slower but more reliable. More suitable for long-term investors and simple cryptocurrency storage.
There are several types, but they are all united by a common feature — a constant, although sometimes limited, Internet connection. The most common are the following types:
- Web wallet. The browser interface acts as the wallet. No additional software required. Perhaps the easiest and most intuitive way to store data, relatively friendly to an inexperienced user. A new wallet, protected by a personal password, is created — and you can start to work with it. However, this is not a very safe option since not all web wallets provide user with access to private keys. Although, there are those that provide complete user control over security — mainly due to multi-signatures.
- Desktop wallets. It gives the user full control over keys and tools by default. Requires appropriate software. Automatically creates the file “wallet.dat” in the memory of a computer or smartphone, where all the keys are stored. This file must also be encrypted and password-protected. And you have to enter this password manually every time you use the wallet. This is a bit inconvenient but useful from a security point of view. But there is a problem: when you lose or destroy the file, or forget the password, you completely lose access to your funds in the desktop wallet. A backup on several separate media can save the day though. An alternative is to export a private key or seed phrase for use with other media. That is, providing access to the same desktop wallet from multiple hardware.
- Mobile wallets. Specialized desktop wallets for smartphones. Convenient because they support QR codes, which significantly speeds up the work process. This method is suitable when it is necessary to carry out regular and daily transactions, as well as use cryptocurrencies to pay bills and services in the real world. The disadvantages of this type of wallets include vulnerability to viruses and malware. In addition, losing a smartphone is much easier than a PC. Therefore, it is advisable to create backup copies of private keys and additional password protection for the wallet.
Special physical devices that use the random number generation procedure to create alphanumeric sequences of private and public keys stored very there. It is basically a cold wallet. But despite its greater protection against viruses and hacking, it is still vulnerable to firmware crashes. In addition, access to funds through such wallets is less convenient than using fast alternatives. However, this is partially offset by the fact that some blockchain access providers allow you to connect these wallets to your desktop or web wallet. It ensures that private keys do not leave the hardware media. This option is good for long-term storage of large amounts of cryptocurrency.
A sheet of paper with printed private and public addresses in the form of QR codes. You need a scanning system to interact with them. In fact, it is a cold wallet, which only the owner has access to. And although the method demonstrates excellent cracking resistance, it is considered obsolete. For example, it does not allow partial operations with funds but only a complete withdrawal or transfer. Yes, this can be solved with the help of intermediate steps, for example, transferring some funds from a paper wallet to a desktop wallet and re-generating and printing a new paper version. But you probably understand how inconvenient and slow it is.
Need for backup
Copying the wallet.dat file or seed phrases, followed by encoding, ensures that you retain access to your cryptocurrency funds even if you lose the hardware media. And since anything can happen in life, having backup copies of the necessary data is extremely important. In addition, it is necessary to select strong passwords and back up them as well, so as not to rely solely on your memory.