The simplest way to get into crypto is to buy some cryptocurrency from a regulated exchange in your own country but some people want to get more involved and consider mining. This article will help you decide whether mining is for you.
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Bitcoin was the first cryptocurrency to be “mined”. It was invented by the pseudo-anonymous computer scientist Satoshi Nakamoto. The opening sentence of his paper is,
“A purely peer-to-peer version of electronic cash would allow online payments to be sent directly from one party to another without going through a financial institution.”
Satoshi suggested that instead of having a bank approve transactions we could hold a lottery of Bitcoin users and the lucky winner would be allowed to update the ledger that has everyone’s balances.
This randomly selected person would be allowed to approve a “block” of several thousand transaction at once and be paid the “block reward” for their work. The “block reward” is currently 12.5 Bitcoin and worth about $120,000 (September 2019).
The winning user has strong incentives to be honest;
• Other users check the winner’s work and if they cheat then they lose the block reward.
• Everyone has to pay fiat (real money) to enter the lottery so cheating and being found out will cost you money.
These incentives have worked well and billions of dollars of Bitcoin transactions have been processed with no significant difficulties.
The computers (and people) who enter the lottery to update the ledger are called “Miners” for reasons that will be clear later.
Satoshi’s insight was that he did not have to collect the money for the lottery tickets. To discourage dishonesty it is only necessary that miners have paid real money to enter the lottery and that they could do that by “wasting” computing power and electricity.
Satoshi specified that the winning miner for a block would be the first to guess the answer to a difficult maths problem based on the contents of the block. Each guess costs a bit of computing power and electricity and it takes billions of guesses (“hashes”) to find the answer.
This solves two problems
• Selecting a random winner
• Wasting a lot of computing power and electricity (the price of a “lottery ticket”).
“The steady addition of a constant of amount of new coins is analogous to gold miners expending resources to add gold to circulation. In our case, it is CPU time and electricity that is expended.” (my bold)
We now know that cryptocurrency mining is the process of spending computing power and electricity in the hope of winning a block reward.
In the 2009 there was only Bitcoin but soon other mineable coins were created and there are now many hundreds that can be mined. Each will have its own difficulty and block reward.
Satoshi originally suggested that Bitcoin would be mined using CPUs in desktop computers but users quickly realised that they could make more guesses per second if they ran special programs on their graphics cards (GPU). When Bitcoin became popular general purpose GPUs were replaced with specialised mining hardware called ASICs
[picture of a mining rig]
Lots of people mine for fun and to support the ambitions and values of their chosen coin. If you would just like to “have a go” then one of the easiest coins to start with is Vertcoin. Simply download their software to your PC and start mining with your graphics card. This is a good way to learn about coins, block rewards, mining and mining pools.
Remember that all cryptocurrency mining uses electricity and that creates heat. Please make sure that your PC will not overheat and damage itself.
Mining for profit is the process of making a capital investment in return for an income stream. You provide the money to buy the equipment and electricity and hope to make money back by gaining the block rewards. There are so many people mining cryptocurrencies that it is very unlikely that your computer will win the block reward. Therefore most people join a mining pool and share the profits.
Income is typically paid out monthly or daily in cryptocurrency.
Crypto miners are just like gold miners. When they have their asset (Bitcoin/Alt/Gold) they have to decide whether to sell it or keep it.
Some people will keep it to diversity their investments and others will sell it to get fiat (real money). The tax treatment of mining income is complicated and will vary by jurisdiction therefore you should seek professional advice.
The best way to mine cryptocurrencies is to buy your own hardware. This is like mining for fun but at a larger scale. You can buy dedicated mining rigs for a few thousand dollars. Mining rigs are very noisy and generate a lot of heat so unless you have a very understand partner they will have to go in the garage.
Although this is a very safe way to mine because your computer equipment is under your control it is difficult to make significant profits. This is because your costs are likely to be higher than your industrial-scale competitors who are also mining for block rewards,
• You are only buying one mining rig, not thousands and so pay more for your computer
• You will probably pay more for electricity
This second point is very important. Most industrial crypto-mining is done in China where due to over-capacity electricity is very low cost or free.
Paying for electricity might not be a problem if you can use the waste heat. For example, people in Alaska and Siberia need baseload heating all year round and in other countries it has been used to heat greenhouses or swimming pools.
Mining rigs lose their value very quickly because faster, more efficient models are being released every few months.
Because of these challenges, for most people buying their own equipment is a hobby with a chance to make some money not a business or investment.
One way to get cheap electricity is to use a “co-location” facility. Your equipment is installed in a data centre and supplied with cheap electricity. Some service providers will also sell you the mining equipment and install it for you. If you take up this offer you should ensure that your equipment is clearly identified and you can get it back if you need to sell it. This option is risker than hosting at home because your equipment is not under your control.
It would be great to win the Bitcoin Block Reward but it is very unlikely because so many people are competing for it. To ensure you get some income you can join a “mining pool”. You donate your hash power to the mining pool and receive a share of the profits. Many mining pools are very large and can offer a predictable income. You should never pay money upfront to join a mining pool because it might be an “advance fee scam”.
Unfortunately cryptocurrency mining has attracted lots of “get rich quick” schemes. Here are some ways that you can lose large amounts of money very quickly with no chance of getting it back.
A keen hobbyist quickly realises that he can buy more kit if he gets his friends and family to invest in expanding his mining farm. I will just repeat the old maxim “neither a borrower or a lender be because loan oft loses both self and friend”.
Some mining pools allow you rent capacity by the hour. Since they would make more money simply mining coins themselves a cynic might suggest that this is unlikely to be a good investment.
Although unsuitable for most people these services can be used by cryptocurrency mining experts to profit from difficulty changes and newer coins. CryptoStar will accept advertisements for businesses who offer hash power rental by the hour.
Cloud mining firms offer to take your money and purchase and operate mining equipment as a pooled investment for several years. There a some honest service providers but most are Ponzi scams.
Ponzi scams pay “income” from new investments while paying themselves huge salaries. Eventually the money runs out and the scammers disappear.
If you would like to learn more about Cloud Mining and Ponzi schemes then there is an extremely good post here by Puppet.
CryptoStar does not accept advertising from Cloud Mining schemes that accept money from retail investors or self-managed pension funds. If you find a listing on our website for a company that is offering “cloud mining” services please report it.
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