What Is a Cryptocurrency Wallet and How Does It Work?
What is the difference between a wallet and an exchange? How does a cryptocurrency wallet work? These are some of the most frequently asked questions by those who are just starting their journey into the world of cryptocurrency. Let us check them in detail.
Cryptocurrency Wallet Is Not a Cryptocurrency Exchange
Many beginners believe that a wallet and an exchange are if not the same things, then at least something interconnected. However, this is not completely correct.
A cryptocurrency exchange is a place, a platform where transactions take place. We can compare it with an online market or shop. You buy one coin and pay with another coin.
Some exchanges, such as LetsExchange.com, provide non-custodial services. It means that the platform is responsible for arranging your transaction, and that`s it. The exchange doesn`t own your coins nor it manages them which means a higher security and anonymity level.
There are exchanges that provide custodial services. In such a case, you entrust your crypto-money to the exchange, and the exchange can have access to it.
How Does a Cryptocurrency Wallet Work?
When replying to this question, it is common to compare a cryptocurrency wallet to a usual physical wallet. This is not completely the case though. To understand how a cryptocurrency wallet works, you shall understand clearly what crypto coins are.
A crypto coin, say, Bitcoin, is a code, a string of symbols. This string is registered in the blockchain and stored there until you buy something with the coin.
When you use the coin, new symbols are added to the initial string, and a new coin is created. This new coin is registered in the blockchain, and your old coin stops existing. For example, you have a coin
4ghT232jkbn6NmbsF
that is stored in the blockchain.
You buy another coin or goods, or you pay for services, and some new symbols are added to the string:
4ghT232jkbn6NmbsFghityT
Now, the old coin is changed to a new one, the information about the transaction and the new coin are registered in the blockchain.
Thus, cryptocurrency is not stored in your crypto-wallet. It is stored in a special ledger called the blockchain.
Why is then a wallet needed?
To prove that a specific coin belongs to you, you need to have a private key. It is a tool used for communication with the blockchain. A private key is generated by and kept in a wallet. It provides you access to your coins, you shall never share it.
A wallet also has an address, an indication to a specific address in the blockchain. When you buy or receive coins, they are sent to the indicated location, the wallet address. This address you share with a person who is going to send coins to you.
A wallet also generates public keys which are also shared to receive the coins.
Types of Cryptocurrency Wallets
There are several types of cryptocurrency wallets. They can be classified in different ways, we check the most common ones.
Hot and Cold Wallets
Hot wallets are wallets connected to the internet. They are normally preferred by traders and those users who need to have access to their coins frequently.
Cold wallets are those wallets that are disconnected from the internet. They are convenient to store cryptocurrency.
Software Wallets
Software wallets are normally hot wallets because they are connected to the internet. Software wallets are represented by many wallet types.
Web Wallets
This is one of the most convenient types of crypto-wallets. You can access your coins directly from a browser, there is no need to download or install anything. Such wallets are usually provided by exchanges or companies specializing in web-based wallets.
When you are choosing a web wallet, make sure you have your private key. Some providers of web-based wallets manage the private keys of users, and this might be not safe.
Desktop Wallets
A desktop wallet is software that you download and install on your desktop. In the file that you download, all the information, including your private keys, will be kept. This information shall be protected with your password. If you lose the password, access to your funds will be lost, too. If you use a desktop wallet, store your private keys or a seed phrase somewhere else in a safe place to be able to access the coins even if you forget the password.
Mobile Wallets
Mobile wallets function in the same way as web wallets do. The only difference is that they are developed for mobile browsers.
Hardware Wallets
A hardware wallet is any physical or electronic device that uses the Random Number Generator to generate public and private keys. These are offline wallets, and they are among the safest options to store your coins. They are not so comfortable to use.
Paper Wallets
A paper wallet is a piece of paper with your wallet address and private key printed. It is the safest wallet but it has some major drawbacks:
- It can be easily destroyed or damaged which results in the loss of your funds.
- It can be used to send the entire wallet balance, no partial transfers are possible.
However, if you understand the risks and need to store your coins only, it can be an option. An increasing number of traders now replace paper with a piece of metal. It provides a more resistant storage option.
To Sum Up
Here, you have learned the basics about cryptocurrency exchanges and wallets. There are many more things to explore if you want to understand the world of crypto and become a professional. Follow us for new articles, ask us questions, and we will do our best to provide you with clear replies to guide you in the world of crypto.
If you want to trade crypto easily, safely, and fast, the LetsExchange platform is always here for you. No registration is required — just pick a currency pair and make your trade. All you need is a wallet address for the coin you buy.
