Cryptocurrency is built on public key cryptography. This cryptographic system employs a pair of keys: the public key, used as a deposit address for transactions, and the private key, which is known only to the owner.
Possession of the private key is equivalent to possession of the cryptocurrency, so keeping it secure is super important. This is the job of cryptocurrency wallets.
What is a hot wallet?
Hot wallets, which are typically used for everyday spending and trading, are akin to current accounts. These cryptocurrency wallets store private keys online so they are readily available to sign transactions.
Are hot wallets safe?
The advantage of hot wallets is easy accessibility, but the downside is that because the private keys are on a networked device, they are susceptible to being hacked. Most cryptocurrency exchanges, including Wirex and CoinCorner, only store a small portion of customer funds in hot wallets to provide a shallow pool of liquidity for fast customer withdrawals. This helps minimise the risk of catastrophic theft.
What is a cold wallet?
If a hot wallet is your current account, then a cold wallet could be considered your savings account.
Cold wallets—also known as cold storage—keep the private keys controlling crypto assets offline. These wallets are typically used for long-term secure storage and usually hold larger amounts of value.
Are cold wallets safe?
Cold wallets are the most secure form of cryptocurrency custody. But while it is not vulnerable to network-based theft, losses can still occur from human error.
Cold wallets come in many different forms, but the two most common types are hardware wallets and paper wallets.
Cryptocurrency users looking for Fort Knox style security should buy a hardware wallet. These small USB devices, known as hardware security modules (HSM) in technical terms, look just like any old USB memory stick, but they perform a special task.
Hardware wallets store private keys offline in a specialised chip. The private keys never leave this chip, and are used only to sign transactions when you input a pin and press a physical button on the device. This makes it very difficult for hackers to steal the crypto assets.
Paper wallets are simply printed versions of private and public keys, usually in the form of QR codes. These wallets can be generated with free web services, or manually by printing your keys in a document.
As long as no trace of the paper wallet is left on your computer, then these wallets are completely secure. And as they are totally offline, they are impossible to reach by hackers, although the pieces of paper could still be stolen by someone in the real world!
What is a multisig wallet?
Most cryptocurrency is stored in hot or cold wallets which require only one key — single signature wallets.
With single signature wallets, anyone who knows the private key can move the funds. And if the private key gets lost, then there is no way that the crypto can be recovered because that is the only private key in existence.
Multisig wallets provide an additional layer of security to hot or cold wallets by requiring the signature of multiple trustees before funds can be moved.
Before any transaction is made with a multisig wallet, confirmation is required from multiple people—just like a padlock that requires more than one key to open. This makes it impossible for funds to be moved without confirmation from several different parties.
The exact number of keys required to open a multisig wallet varies, but the industry standard is a total of three keys, with any two needed for authorisation.
Instead of storing all of these keys in one place, which would put the security on the same level as a single signature wallet, each key is usually stored in a separate location or with a different person — typically with different members of the C-suite. When it comes time to make a transaction, the owner must liaise with the trustees to verify the transaction is genuine before it is approved.
The concept of multisig — or multisignature — custody is not unique to cryptocurrency. This security principle has been used since ancient times when several keys were needed to open crypts holding precious relics. This meant no single monk was able to access the relics without the assistance of others, reducing the likelihood of theft.