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BlockSocial / News & Articles from BlockSocial / How to Earn Passive Income with Masternodes

How to Earn Passive Income with Masternodes

July 12, 2019 by Alexander Lielacher

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The cryptocurrency markets provide several ways for investors to generate returns. One of the lesser-known methods is running a so-called “masternode.”

In this article, you will be introduced to masternodes, their origins, and how they work. You will also discover the pros and cons of running one and how to choose a profitable masternode.

What Are Masternodes?

In traditional computer science, a node refers to a device that operates within a network in an operational support context. Nodes can come in many forms, each with different responsibilities and capabilities, including full nodes, light clients, and masternodes.

Full nodes provide maximum support to a network and can thus download or access the entirety of the network. In contrast, light clients cannot download or access the network fully due to reduced storage or computational capacity.

Masternodes differ from full nodes and light clients as they have specialized functions and permissions, although they usually also take the form of a full node. Additionally, as the setup of a masternode (especially in the context of digital currencies) requires the setting aside of stake, they are also called bonded validator systems.

In the cryptoasset markets, masternodes are generally community-driven. Members of a network will decide autonomously to set up an operate a masternode. While the decision is self-driven, it is usually informed by the incentive structure present within the network. In addition to the potential financial gains the owner stands to receive from operating a masternode, some parties may set up a bonded validator purely for altruistic reasons because they provide the network with the necessary support it needs to flourish.

It is important to note, however, that the majority of masternode operators do so purely for financial reasons. As a result, the incentive architecture within a network must be attractive enough to attract operators. The importance of the incentive structure is further highlighted by the depth of resources and technical knowledge required to set up a masternode.

The most common demand for initial masternode setup is the locking away of a considerable amount of the digital asset native to the network in which the node operates. This requirement is an important aspect of the rewards, punishments, and incentive structure of decentralized cryptocurrency networks.

The setup of a masternode varies from cryptocurrency to cryptocurrency but generally involves downloading a full node, staking the required amount of coins or tokens to operate a masternode, and then configuring the node and linking it to the network so that it can operate as a masternode.

The Origins 

Masternodes were first introduced to the cryptocurrency markets by the digital currency Dash (DASH). Dash was initially called Darkcoin, an allusion to its privacy-centric values, but changed its name a few months after its launch in 2014. Following the name change, the altcoin’s developers included a special type of node. The special type of node was designed to introduce a new feature to Dash.

The special nodes were called masternodes and provided the Dash network with support for its PrivateSend feature. Additionally, masternodes also provide operational and foundational support for instant transactions on the Dash blockchain.

In order to incentivize members of the DASH ecosystem to upgrade their nodes to masternodes, developers included certain privileges that would only be accessible to those operating masternodes on the network. Masternode operators were able to vote on the growth and development strategy of the network while those running regular nodes did not have access to this privilege.

The Dash network witnessed significant success with its masternode project, prompting a large scale emulation of the feature within the greater blockchain ecosystem. Apart from their success in Dash, masternodes were adopted by many other cryptocurrency projects due to their highly customizable nature.

Currently, over 500 digital currency projects allow those operating nodes within the networks to upgrade them to masternodes. Examples include PIVX, Zcoin, and SysCoin.

The Pros And Cons of Running a Masternode

It is important to research the advantages and disadvantages of operating a masternode before initializing it.

Masternodes require a substantial amount of tokens to be locked away as a stake during set up. This is both an advantage and a disadvantage. It is an advantage because it ensures the network is populated by masternode operators who are incentivized to stay honest as any malicious activity is likely to result in the slashing of confiscation of the stake.

Operating a masternode can be a disadvantage too, however, as the node must keep the funds locked away at all times, or it ceases to have the privilege of operating as masternode. If you would like to access these funds you would lose the gains accrued from participating as a masternode operator.

However, if your goal is to simply HODL these funds, operating a masternode is one of the smartest ways to do so. While HODLing is usually a purely passive action, operating a masternode is the opposite as you are actively putting your digital assets to work for you.

Due to the increased responsibilities handled by a masternode, they are usually entitled to a portion of fees from each transaction relayed over the network and in some cases, a portion of the block reward. This is where the earning interest part of masternodes comes into play.

The Dash masternode community explains this masterfully: “Think of a masternode as a savings account with a minimum deposit of 1,000 DASH. A traditional savings account pays interest, and a masternode pays rewards, which are very much like interest. In the case of a masternode, the reward (or interest) comes from performing services for the network. Not from lending. The big difference between a traditional savings account and a masternode is that your initial deposit never leaves your possession.” 

Masternodes are a secure way to store your funds, earn interest, and contribute to a cryptocurrency network while HODLing a digital asset for potential long-term capital gains.

How to Choose a Profitable Masternode

As different networks have different requirements, you must conduct thorough research into a cryptocurrency before deciding to run a masternode to support its network.

A good place to start is the masternodes comparison website Masternodes.online. There, you can find a list of all masternodes and rank them for different criteria, such as percentage APR, number of coins required to run a masternode or market capitalization.

While a masternode’s ROI plays an important role for investors, it is important not to discard other factors when choosing which masternode(s) to operate.

To determine which masternode(s) to operate, consider these factors:

  • Market capitalization
  • Daily trading volumes
  • Developer activity
  • Community
  • Reputation
  • Return on investment (ROI)

If you decide to run a masternode, you should first look at a cryptocurrency’s market capitalization and daily trading volumes. If a coin only has a market cap of a few thousand dollars and next to no daily trading volumes, you will not be able to cash out your masternode earnings. Hence, it is important to choose a cryptocurrency that has enough liquidity for you to cash out at the market price.

Next, it is advisable to look at developer activity on GitHub to see how active a project is being worked on. If there is little to no developer activity on an open-source cryptocurrency, then it will likely not succeed and its price will dwindle into worthlessness. Hence, it is best to only choose cryptocurrencies that have developers actively working on them.

A vibrant community is also a factor to look at as a community usually leads to adoption. If a cryptocurrency project does not have a sizable community, it is probably better to avoid operating a masternode for its network, even if its projected ROI is high.

A cryptocurrency’s reputation should also be taken into consideration. If you have found an interesting coin that meets the requirements mentioned above but you have never heard of it, it would be advisable to see what other, perhaps more experienced, cryptocurrency users are saying about it on platforms such as Reddit, the BitcoinTalk Forum or Twitter. There you can find out whether the cryptocurrency project has merit or whether there are some major red flags that you should hear about. Unfortunately, there are a number of “scam coins” that enable the operation of masternodes (usually with high projected ROIs). Hence, it is advisable to focus on high-quality masternode-enabled cryptocurrencies.

Finally, the projected percentage return on investment should also be taken into consideration. While the actual annual percentage return will vary due to a cryptocurrency’s price volatility, the percentage APR can be used as a rough guide on what to expect as potential additional returns to your cryptoasset holdings.

Operating a masternode or a portfolio of masternodes can be an excellent way to add returns to your cryptoasset portfolio. The key is to choose the right masternode coins and to ensure that you acquire enough technical expertise to successfully operate them.

The information in this article is for informational and educational purposes only and should not be considered financial or investment advice.  Investing in ICOs, IEO’s, cryptocurrencies, or tokens is highly speculative, and the market is largely unregulated. Anyone considering it should be prepared to lose their entire investment.

Filed Under: News & Articles from BlockSocial

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Alexander Lielacher

Staff Writer

London, United Kingdom

Alex runs Africa's leading blockchain news publication BitcoinAfrica.io and contributes to several international bitcoin publications including Bitcoin Magazine, CryptoNews.com, and Bitcoin Market Journal.

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