Crypto staking and dividends are both popular methods from earning passive income from assets your own. Staking refers to earning rewards from locking up your crypto to secure a Proof of Stake blockchain. These rewards can vary depending on what cryptocurrency you are staking.
Dividends are paid out to investors who hold shares in companies. Unlike staking which can be paid out daily, dividends are often allocated to investors every 6 months, though a lot of people opt to have their dividends automatically reinvested back into the same company that they were paid out from.
The explosion of decentralized finance (DeFi) has shaken up the world of passive investment opportunities. Traditional financial instruments – such as stocks and bank accounts – typically only generate passive income through dividends or high-interest savings accounts.
The introduction of staking has the potential to revolutionise the way society perceives personal finance. But how well does yield from crypto stack up against traditional investment vessels? In this guide, we will explore how staking crypto rewards differs from stock dividends and dive into the potential benefits and downsides of both.
Related: Crypto vs stocks.
Passive income strategies for crypto
For the first decade of crypto’s existence, the primary form of profit came through the price of coins increasing or mining. However, 2018 saw the ramp-up of new technology on the back of Ethereum’s popularity. This led to the evolving world of decentralized finance, which has completely revolutionised money-making possibilities for crypto investors.
Staking is the process of locking up crypto into a Proof-of-Stake blockchain in order to secure the network and verify transactions. The assets are held in a smart contract and are vital to how these networks validate and finalise transactions. For securing the blockchain and assisting its economic function, stakers receive a staking reward, typically as a proportionate percentage of the coin/token, they’re staking.
Staking can be quite lucrative for those with large portfolios, but it’s not without risk. The process sometimes involves locking up coins for a set duration – much like a term deposit. The rewards will not normally be distributed if the crypto is withdrawn before the staking period’s end, however, this will usually depend on the platform it’s being staked on.
This can present an issue during periods of high market volatility, where stakers cannot react to unfavourable market conditions and lose more than they’re passively generating. A potential solution to this is to stake stablecoins pegged to fiat currencies.
Check out our comparison of best crypto staking websites in Australia.
Yield farming is more of an income-generation strategy than a specific DeFi earning method. It generally involves leveraging the variety of DeFi earning mechanisms such as staking, lending and liquidity mining to maximise money-making potential. Instead of locking up coins on one platform, yield farming usually requires moving assets between various decentralized exchanges (DEXs) to find the most profitable opportunities. Due to how fast-moving the crypto market is, yield farming can be quite a risky strategy for those without a well-developed plan.
Crypto lending services mirror that of a high-interest savings account. Essentially, investors can loan their crypto assets to an exchange and receive passive income in return. This is very similar to a bank using a savings account’s funds for loans, and paying the account back with interest.
Crypto lending was initially a niche offering but has since become widespread due to its simplicity. The majority of top-tier cryptocurrency exchanges offer some form of lending service or crypto savings account.
Did You Know: Through 2016–18, there were a couple of centralized loan services for crypto investors. However, passive income from crypto really broke through in 2018 with the release of Compound Finance. This DeFi platform allowed users to borrow ETH-based tokens, or loan them out in exchange for passive interest.
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Dividends are a way for publicly listed companies on the stock market to reward shareholders for their loyalty and capital contribution. There are quite a few different types of dividends.
Cash dividends: Most dividends are paid out in cash, where investors receive a monetary value per share they hold. So if an investor held 100 shares with dividends paying $1 per share, they’d receive $100.
Stock dividends: The other most common form of dividend is stock dividends. These are paid out in the form of shares, so they don’t affect the business’s bottom line – although they do dilute the share price (SP).
Though less common, companies may also provide scrip or property dividends. Scrip dividends occur when a company lacks the finances to pay out their shareholders. In this instance, the scrip dividend exists as a promise of future payments. Businesses may also provide dividends in the form of “property” – a near-market value asset that isn’t cash or a stock.
The distribution of stock dividends can be affected by multiple factors. For example, a company that yielded minimal profits throughout a financial year may pay out less (or no) dividends than prior years. Additionally, certain companies or index funds are designed to yield high dividends but have slower SP growth. Most dividends are paid out quarterly, however some are distributed bi-annually, annually or even monthly. Not all companies will pay dividends, and stakeholders are usually compensated proportionately for their investment.
Tip: Say you hold 100 units a high-yielding ETF that paid out $7 in cash dividends annually. In this instance, you would receive $700 dollars. However, instead of receiving cash, many investors will instead set up a dividend reinvestment plan with their brokers. In this instance, the $700 would automatically be reinvested into the ETF. Therefore, both cash and stock dividends can ultimately dilute the share price.
What are franking credits?
Franking credits were introduced to solve the issue of investors getting taxed twice on their dividends.
When a company makes a profit, it is taxed before dividends are paid out to shareholders. These shareholders then need to declare this dividend as income which is added to their total assessable income and taxed accordingly. For good reason, most investors don’t like being taxed twice.
Franking credits refer to the tax a company has already paid on its profits which shareholders can receive on top of their dividend amount. When it comes to tax time, the investors will declare both the franking credit and the dividend meaning they will only be taxed once.
Important to Note: Not all companies pay franked dividends and some companies will offer partially-franked dividends. A company paying a dividend that is 50% franked means the company has paid 50% of the profit that is being being distributed to investors. Generally, fully franked dividends offer the highest value to investors.
Cryptocurrency staking vs stock dividends
On paper, staking crypto and receiving dividends are rather similar. Both earning methods require locking up capital into a company (or blockchain), and receiving a reward for the financial contribution. However, each yield mechanism has unique pros and cons that should be considered.
Advantages of staking
Staking has several advantages over stock dividends. For starters, staking is typically more lucrative than stock dividends. On average, the returns for staking crypto are higher than 5% annually. Some cryptocurrencies can even yield in excess of 20%. Conversely, stock dividends very rarely return higher than 6% per year. Additionally, many crypto networks have in-built “burning” protocols which help avoid the price dilution that occurs when paying out stock dividends. Cryptocurrencies will have varying minimum stake amounts. However this figure is almost always lower than buying into dividend-yielding stocks – which cost between $500–1,000 to open a position on most exchanges.
Several exchanges like Swyftx, Coinspot and Digital Surge offer staking. Check out our reviews of each below:
Pros and cons of staking crypto
|Passive income – can earn passive income on your crypto holdings
|Price volatility – Staking rewards might not be enough to cover the loss in overall value if the price of the coin your staking drops
|Compound interest – staking rewards automatically compound
|Lock up periods – Some platforms require you to lock up your coins for a certain period of time
|Potential for higher returns – rewards offered through staking is often higher than stock dividends when expressed as a percentage
|Easy to do – staking on major exchanges can be done with the click of a button
|Deflationary protocols – staking crypto isn’t as impacted by price dilution due to blockchains implementing a deflationary mechanism that burns tokens
|Low barrier for entry – Unlike Bitcoin mining, staking doesn’t require any equipment or hardware
Advantages of dividends
Staking is inherently a riskier proposition than receiving dividends. Traditional financial markets are usually less volatile than the crypto market, so reacting quickly while assets are “locked-up” isn’t as much of a concern. To receive a distribution, investors must hold shares before the ex-dividend date. This timeframe tends to be much smaller than the staking lock-up periods. Therefore, investors can trade their shares to another company and still receive a similar dividend in the event of a share price tumble. On the other hand, unlocking staked tokens early may completely wipe out accumulated earnings, or incur a fee.
Finally, staking cryptocurrency requires the use of smart contracts. This technology is still quite novel, and can be prone to bugs or exploits. There have been a few instances of hacks or attacks on blockchains where huge amounts of staked tokens have been stolen. It is extremely unlikely a similar hack will happen on the ASX, although market manipulation is still a risk.
Pros and cons of dividends
|Passive income – can earn passive income on your investments
|Investment risk – dividends distributed to shareholders might not be enough to cover the loss in overall value if the SP drops.
|Ex-dividend date – investors can trade their shareholdings any time after the ex-dividend date and still receive their distributions
|Share dilution – dividend payouts can dilute the company’s SP
|Ex-dividend date – only require shares to be held for a day or two for investors to receive the dividends
|Unfranked dividends – some companies offer unfranked dividends which are taxed twice.
|Fully franked dividends receive preferential tax treatment.
|Dividend cuts – Companies have the ability to slash or cut dividends in response to economic downturn, stock market instability or negative earnings.
|Compounding – Dividends can be automatically reinvested for compounding returns
|Low SP growth – some stocks that pay out healthy dividends have slow SP growth
Staking crypto and receiving stock dividends are two very powerful vehicles for investors to generate passive income. For many, there’s no real reason to choose between both, as diversifying into both sectors can be a great way to build a well-optimised investment portfolio. However, deciding to stake crypto or purchase dividend-yielding stocks should always be part of a broader investment strategy. This is why it’s important to understand the ins and outs of each earning method and conducting your own research.