Written by Shivashish Yadav on   -  6 min read

How do Cryptocurrency Wallets work? Understand what is it and how many types are there?

What is a wallet?

A wallet stores the information needed to transact bitcoins. While a wallet is often described as a place to hold or store bitcoins, because of the system, bitcoin blockchain transactions are inseparable from the ledger. A wallet is more correctly defined as one that "stores the digital credentials for your bitcoin holdings" and allows anyone to access (and spend) them. Terminology: Bitcoin uses public-key cryptography, in which two cryptographic keys, one public and one private, are generated. In its most basic form, a wallet is a collection of these keys.

Software wallet

The first wallet program, simply named Bitcoin, and sometimes referred to as the Satoshi client, was released in 2009 as open-source software by Satoshi Nakamoto. In version 0.5 the client moved from the wxWidgets user interface toolkit to Qt, and the entire bundle was referred to as Bitcoin-Qt. After the release of version 0.9, the software bundle was renamed to Bitcoin Core to differentiate itself from the underlying network. Bitcoin Core is, perhaps, the most well-known implementation or client. Alternative clients (forks of Bitcoin Core) exist, such as Bitcoin XT, Bitcoin Unlimited, and Parity Bitcoin.

There are many ways in which wallets can operate. They have an inverse relationship regarding distrust and computational requirements.

Full clients verify transactions by downloading a full copy of the blockchain directly (over 150 GB as of January 2018). They are the most secure way to access the network, as trust in external parties is not required. Full clients check the validity of mined blocks, preventing them from transacting on-chain that breaks or changes network rules. Because of its size and complexity, downloading and verifying the entire blockchain is not suitable for all computing devices.

Lightweight clients consult full nodes to send and receive transactions with no local copy of the entire blockchain (see Simplified Payment Verification – SPV). This makes lightweight clients much faster to set up and allows them to be used on low-power, low-capacity devices such as smartphones. When using a lightweight wallet, however, the user must rely on full nodes, as it can report faulty values ​​to the user. Lightweight clients follow the longest blockchain and do not ensure that it is valid, which requires trust in full nodes.

Third-party internet services called online wallets or web wallets offer similar functionality but may be easier to use. Here, the credentials to access the funds are stored with the online wallet provider rather than with the user's hardware. As a result, the user must have complete trust in the online wallet provider. A malicious provider or a breach in server security may cause the theft of assigned bitcoins. An example of such a security breach occurred in 2011 with Mount Gox.

Cold storage

Wallet software is often targeted by hackers because of its lucrative ability to steal bitcoins. A technique called "cold storage" keeps private keys out of reach of hackers. This is accomplished by generating the private keys on a device connected to the Internet and keeping it offline at all times. The credentials needed to spend bitcoins can be stored offline in many ways, from specialized hardware wallets to simple paper printouts of private keys.

Hardware wallet

A hardware wallet is a computer peripheral that signs transactions requested by the user. These devices store the private key and perform signing and encryption internally, and do not share any sensitive information with the host computer except for previously signed (and thus irreversible) transactions. Because hardware wallets never expose their private keys, even computers that can be compromised by malware have no vector to access or steal them.

The user sets the passcode while setting up the hardware wallet. Since hardware wallets are tamper-resistant, a passcode will be required to withdraw any money.

Paper wallets

A paper wallet is created with a key pair generated on a computer with no internet connection. The private key is written on paper and then erased from the computer. Paper wallets can be stored in a secure physical location for later retrieval.

Physical wallets can also take the form of metal token coins, with a private key accessed under a security hologram in a recess on the reverse side. The security hologram self-destructs when removed from the token, showing that the private key has been used. Originally, these tokens were struck in brass and other base metals, but later precious metals were used as bitcoin grew in value and popularity. Coins with a face value as high as 1000 are denominated in gold. The British Museum's coin collection includes four samples from an early series of funded bitcoin tokens. one is currently on display in the museum's Money Gallery. In 2013, an Utan producer of these tokens was ordered by the Financial Crimes Enforcement Network (FCEN) to register as a money service business before producing any further funded bitcoin tokens.

How do cryptoKitties and crypto wallets connect to each other?

Let us understand the connection between cryptocurrency and crypto wallets with an example. Let's say you are user A and you want to transfer some cryptocurrency to a friend of yours, user B. Some keys are needed to do any transaction or transaction in crypto. So if User A want to do a transaction, User A needs a public key from User B (who wants to send crypto). This public key is the wallet address of user B.

How to keep crypto wallet safe from hackers?

As friends, we keep our wallets or physical wallet carefully. Similarly, we should also keep our crypto digital wallets safe from hackers and scammers. For this, we want to give you some suggestions. If you follow these tips, it will be easier to keep your crypto safe to a great extent.

Tips to keep cryptocurrency wallet safe

  • Do not save the password (Private Key) of your cryptocurrency wallet by writing (text and notepad) in any online location, even on any dry. Because hackers can hack your password from there, too.
  • Always keep the private key to crypto by writing it offline or by making a note in a diary.
  • Do not keep all funds or all cryptocurrencies in one crypto wallet at the same time.
  • Keep an offline copy of the private key with a trusted family member or a friend so that you can access it from there if you ever lose it.
  • Instead of Hot Wallet, you have kept your Cold in Cold Wallet because Hot Wallet is always connected to the Internet, so from there it is most likely to be lost or hacked.
  • Repeated transactions with crypto also reduce your cryptocurrency, because on every transaction you have to pay a transaction fee, so try to do at least the transaction.