With Bitcoin price surging to new highs in 2021, keeping cryptocurrencies safe has never been more crucial. A good place to start is by learning about bitcoin’s hot storage and cold storage and their pros and cons.
Twelve years after the launch of the flagship digital asset, high-profile hacks remain an issue — with malicious actors managing to attack investors and exchanges. Fortunately, many centralized exchanges now have insurance policies to protect against such events, and set aside a part of their profits in the event that they have to reimburse their customers.
But here’s the problem: lots of investors are still unaware of how to safely store cryptocurrencies, and how to reduce the chance of their wallets being hacked.
A good place to start is by learning about hot storage and cold storage. Both methods have their disadvantages — and understanding which to use and when can boost the chance that your crypto will stay out of the hands of a hacker.
What Is Hot Storage?
Hot storage is referred to crypto wallets that are connected to the internet. These wallets might run on devices like phones, tablets and computers — and they’re ideal for keeping small amounts of digital assets secure.
Although they’re exceedingly mobile, and give you the ability to access your digital assets anywhere and anytime, funds held in hot storage can be vulnerable if malicious actors manage to hack into the device where a wallet is stored.
What Is Cold Storage?
In contrast to hot storage, cold storage is not connected to the internet. They’re keeping data strictly retro, like TVs in the 1990s.
Cold wallets aim to manifest themselves in the form of a physical device, like a small but compact piece of hardware. If you refer to (carefully) scribble down your public and private key on a piece of paper, it suits you. This is a form of cold storage, too. (Although this does eliminate the risk that a hacker will be able to access a private key, it makes a whole new danger of you losing the piece of paper, meaning access to your crypto is gone for good.)
Because of this, it’s common to see people store such types of paper very, very carefully in safes and vaults — anywhere that’s extremely secure.
Hot Storage vs Cold Storage: The Pros and Cons
As with everything, hot wallets and cold wallets come with their own set of advantages and disadvantages.
If we’re getting competitive about it, hot wallets have the upper hand as they are very easy to use. They’re already connected to the internet, meaning it’s a convenient way of accessing crypto. Sometimes, they’re also free to use — and it’s easy to find a wallet that’s compatible with any cryptocurrency.
On the other hand, cold wallets can be carried in your pocket wherever you go — and they can connect to computers via USB for things like firmware updates. (Some argue that this means these devices will be connected to be the internet every now and again.)
But the main factor behind the popularity of cold wallets is its greater levels of security.
Hot wallets are vulnerable to cyberattacks. While most providers have robust measures in place to offer added security, hackers have been turning to increasingly sophisticated measures in order to target victims. In some cases, criminals have created seemingly legitimate firm and gain access to their computer.
The most important challenge surrounding cold wallets is twofold. First, you’ll have to cough up money to purchase one — often between $60 and $170 — and you might need some technical knowhow in order to get it set up.
Crypto exchange accounts can be considered hot wallets — although security measures are different in various platforms. More respected and established exchanges usually enforce stricter security measures and store the vast majority of assets under management in cold wallets, keeping a small percentage in hot storage just for ease of access.
Famous Hacks Involving Hot Wallets
As hot wallets are more vulnerable to hacks in comparison to cold wallets, it’s unsurprising that they’ve become the subject of several notable hacks.
KuCoin fell victim to a major hacking attack in September 2020 — with criminals stealing funds from Bitcoin, Ethereum and ERC-20 hot wallets. It was first thought that $150 million had been stolen, but it later emerged that this figure was closer to $280 million. Thankfully, “on-chain tracing, contract upgrades and judicial recovery” resulted in recovering at least 84% of these funds.
In July 2019, cryptocurrency exchange Bitpoint — which is owned by the Japanese company Remixpoint — also saw its hot wallet ransacked. The damage was estimated at $32 million, which is about a fifth of the assets that the platform had under management. Assets like Litecoin, Ether, Bitcoin and Ripple were taken. Reportedly, the company’s cold wallets were not affected by this incident.
However, it is still possible that cold wallets can also be compromised — but not in the same way as hot wallets. Cold wallet provider Ledger suffered a hack in December 2020, but customer’s information were stolen. Over 272,000 Ledger customers had their names, mailing addresses and phone numbers leaked online by hackers, making them vulnerable to phishing attacks and other tactics to get at their cold storage crypto.
While this type of “hacking” a cold wallet is relatively rare, the Ledger incident showed that crypto holders should always be on their guard and follow best practices for safe crypto storage.
A Quick Recap
If you plan to be dealing in larger volumes of crypto, investing in cold storage might prove advantageous. It’s crucial that you do your own research and assess the pros and cons of various products on the market first.
Another top tip is to perform plenty of due diligence into the security measures that are enforced by cryptocurrency exchanges. You should fully expect these platforms to keep the lion’s share of the assets they have under management tucked away in cold storage.