Cold Wallet vs Hot Wallet: Why is a Cold Wallet Important?
Key Questions Answered
As more and more people step into the world of cryptocurrencies, the need to have secure and easy to use crypto storage wallets will become ever more important. Similar to how people use physical wallets to carry their cash, debit, and credit cards, a crypto wallet is a place where you can securely keep your crypto.
Crypto wallets are used to store, receive, and send cryptocurrencies. The most popular types of crypto wallets are hosted wallets, non-custodial wallets, and hardware wallets. They are classified in two forms, hot and cold.
What are Crypto Wallets?
Before going into the difference between hot wallets and cold wallets, it is important to have a basic understanding of how crypto wallets work. For those who are new to crypto, wallets are where you store your cryptocurrency.
There are a few important components of a wallet which makes each one unique. In particular, a wallet will come with two important pieces of information: a pubic and private key. These function as security measures that control who has access to the wallet.
A private key is a mathematically generated string of letters and numbers linked to your wallet address. The control of this key allows crypto to be spent from this wallet. If you lose/forget this key you will lose access to the funds in your wallet as there is no way to retrieve it.
Private keys are similar to your bank password or pin numbers. This is because they allow the user to access the wallet, check the balance, and make transactions.
A public key is also related mathematically to the address of your wallet. The public key confirms that the wallet address belongs to you.
As the names suggest, it is important to keep your private key safe and known only to you. However, your public key will be viewable by anyone. Your wallet will also contain a log of all incoming and outgoing transactions which can be verified by checking them against the blockchain.
Public keys are similar to a bank account number because they identify the wallet so that the user can receive or send specific cryptocurrencies or tokens.
Cold Wallets vs Hot Wallets: Key Differences
At the most basic level, there are two cryptocurrency wallet classifications: hot wallets and cold wallets. Cold wallets are crypto wallets that are responsible for storing private keys in an offline environment, and a hot wallet is a crypto wallet that is connected to the internet, such as a cloud hosted wallet or a crypto wallet software or app.
If you’re interested in finding out more about all the different types of wallets, read What is a Crypto Wallet?
What is a Hot Wallet?
A hot wallet refers to a wallet that is connected to the internet and stores private keys in an online environment. Hot wallets are software you can find on a mobile device, a cloud server, or a laptop. Hot wallets are more suitable for beginners who are just getting into crypto trading, crypto investors who frequently buy and sell on exchanges, and for people who want to facilitate basic transactions and make quick online payments. In addition, hot wallets are often sufficient for individuals with lower sums of crypto. However, hot wallets are vulnerable to hackers because of their internet connectivity.
Are Hot Wallets Safe?
Although hot wallets present more risk to the holder because it can access and be accessed by other parts of the internet, they are still a safe way to store your cryptocurrency. The safety of hot wallets also depends on the service provider, for example, if the wallet is run by a popular exchange with lots of resources for security. However, it is not safe to store large sums of cryptocurrency on a hot wallet.
One example that brings to light the safety concerns of hot wallets is the Kucoin exchange hack in September 2020, where hackers stole more than $275 million dollars worth of cryptocurrency. Essentially, the Kucoin hack targeted the hot wallet system that the company was using to store their customer’s crypto. Hot wallets are viewed as riskier and more vulnerable to such attacks because the internet connection which makes them better for quick online transactions, also gives hackers a route into the wallet.
What are the Best Hot Wallets?
Many hot wallet providers are also exchanges, for example, Exodus, which means there is an interface to go from purchasing cryptocurrencies and transferring them to a secure hot wallet. On the other hand, there are more DeFi-compatible wallets such as Metamask, Trust Wallet, and Argent. Then, there are Bitcoin and multi-cryptocurrency wallets like Mycelium, BitGo, and Atomic Wallet.
|Most Popular Hot Wallets|
What is a Cold Wallet?
In comparison to a hot wallet, a cold wallet, on the other hand, is more secure because it is kept offline on a separate piece of hardware like a USB. Thus, it can only be accessed by whoever is holding the physical device.
How to Transfer Crypto to a Cold Wallet?
Since cold wallets are not crypto buying platforms, they can only be used to send and receive cryptos like Bitcoin and Ethereum. For example, if you want to transfer crypto to a cold wallet like a hardware wallet, you need to send the cryptos from an exchange to the device’s wallet address (the public key).
Can Cold Wallets Be Hacked?
Cold wallets like hardware wallets are devices that are immune to malware, and they are complexity free, with the sole purpose of storing keys and signing transactions, which removes the attack vectors hackers and thieves traditionally exploit. However, cold wallets are not un-hackable. One of the main ways hardware wallets can be hacked is through PIN code hacking, but it varies per device used.
What are the Best Cold Wallets?
The best hardware cold wallet devices are the Ledger Nano X and Trezor Model T.
How Does Phemex Utilize Cold Wallets?
A crypto exchange that primarily utilizes cold wallets such as Phemex, is in theory safer as funds and keys are not accessible through the internet.
Phemex assigns each user their own cold wallet deposit address, these are then periodically gathered and stored in the company’s multi-signature cold wallet through offline signature. In this way, we keep the funds used and stored on the Phemex platform safe from outside attacks. One downside is that accessing these funds takes a little longer than platforms that use hot wallets. However, we believe that security and assurance that your funds are safe are worth a little wait.
What are the Best Practices for Wallet Security?
Users should keep both a hot and a cold wallet. A cold wallet should be used for storing larger amounts of crypto. These are long term investments i.e., coins that you intend to hold on to for a while and not spend. A hot wallet is useful to store a more limited sum, only containing what you have near-future plans to spend or use online for trading or exchanging.
Make sure that you do research into whichever wallet is going to work best for you. Maintaining secure practices with your keys is going to be the best way to protect yourself from malicious losses. Just like you keep your pin and passwords private, the same also goes for the keys to your wallet. Cryptocurrency isn’t as regulated nor as controlled as fiat currency, the onus is more on you to keep yourself safe.