Digital wallets are computer programs to make transactions with our digital currencies.
Unlike how we use our pocket wallets to store our physical money, our digital wallets are only a platform to store and access our private keys to execute transactions on the blockchain.
Some cryptocurrencies offer their own official wallets, while other applications allow us to store multiple currencies within the same wallet.
How do digital wallets work?
Instead of having physical coins, a cryptographic wallet is electronic and includes a public and private key (asymmetric cryptography):
Public key. This is a long sequence of letters and numbers that form the electronic address of our wallet. With this, we can send money to our wallet. It is similar to a bank account number, which we use to send money to a particular account.
Private key. This is used to access the funds stored in the digital wallet to manage them. Like a PIN or security key, we will have to keep our private key secret and always safe. We must consider that not all wallets provide us with exclusive ownership of a private key, as I will explain, which means that we will not have total control over our digital assets.
With this, we will distinguish two main categories: hot wallets, and cold wallets. In simple terms: “Hot” wallets are connected to the Internet, and “cold” wallets are not.
In terms of disposition of funds, there are wallets that are “custodial”, since the service provider has the private keys on its server under its responsibility, while those that are “non-custodial” are the responsibility of the private keys and that implies that if you lose them you lose your coins.
Exchanges are not considered wallets since they are like banks. Coinbase or Binance are the best known. They are easy to use, they store the private keys in the cloud, and you access them with a key, just like banks. Your crypto funds are exposed to server hacking, service company bankruptcy, or legal seizure.
1)Hot wallets (online)
- Privacy: private keys are stored on the online purse servers. You, simply have the user and the account key.
- Security: they are exposed to server hacking or legal seizure.
- Use: Quick and easy to make transactions.
2)Software wallets (desktop application or mobile device)
- Privacy: in most cases, the private keys never leave your device or PC. They are stored and encrypted on your computer or cell phone. In a few cases your keys are stored on the provider’s server.
- Security: exposed to hacking of your computer or cell phone.
- Usage: recommended for storing cryptocurrencies at medium term. Example: Electrum, Jaxx, Exodus, Mycelium, Coinomi.
3)Cold wallets or hardware (physical: similar to a pen drive)
- Privacy: you own the public keys and the private keys.
- Security: If you physically lose your wallet you lose your coins.
- Use: keep large amounts of funds in the long term. Example: Ledger, Trezor
4)Paper wallets are literally pieces of paper with your public key and private key printed on them. We can generate these types of wallets on websites such as Bitcoinpaperwallet.com or Bitaddress.org. Although they are the cheapest, they are not the most recommended because of their security risks.
How to choose and use digital wallets
There are many styles of wallets and that is why you should do your own research to find the wallet of your convenience.
Some users choose to uninstall the application in which they had the cryptocurrencies in order not to risk intrusions, since being connected to the device in which the application of the funds is, it could be hacked. Then, when they want to use their backgrounds, they install the wallet again and restore the cryptographic seed (phrases).
Others buy a cell phone for the sole purpose of having it turned off, offline, and only connect it when they need to perform operations. While this methodology does not match the hardware wallet in terms of security, it emulates it quite well and at a lower purchase cost. Of course, the device must at least have a password and the wallet must have a second authentication factor (2FA) installed on another device to make the security more robust.
In short, in order to choose the most suitable crypto wallet you must analyze certain criteria:
1. The type of use: it is based on our priority. If we need security because we have a large amount of funds, hardware wallets are ideal. If we have less funds and want quick access to our money, a mobile wallet may be our option. Usually a combination of both is reasonable.
2. Ease of use. While cryptography beginners can concentrate on finding a wallet that is easy to set up and use, more experienced users can look for more advanced features and functions, with cryptocurrency exchanges within the same wallet, selection of the amount of transaction fees or multiple signatures for fund management.
3. Security. You should investigate the security features of the wallet, such as two-factor authentication, whether it is an open source program and whether it makes frequent updates to protect against attacks. Verify by information sources that the wallet has not suffered security violations.
4. Variety of crypto-currencies. If we store several tokens then a wallet that stores only one type of crypto currency as bitcoin, or do we want a multi-currency wallet?
5. Updates and reviews. Let’s investigate the company behind our wallet.
6. Costs. While most cryptographic wallets are free, choosing a hardware wallet is an expense, but perhaps worth the effort.
Know about privacy in wallets: What are hierarchical deterministic wallets (HD)?
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