Hardware wallets can make a difference in keeping your cryptocurrencies secure; understanding what a hardware crypto wallet is, how they work, their benefits, and the best hardware wallets to use - will drastically reduce your chances of getting hacked.
In this guide on what is a hardware wallet you will learn:
When we talk about wallets, we usually refer to two main types of crypto wallets:
Let’s see how the two are different.
The most commonly known are software-based hot wallets like Rainbow, Rabby, and Metamask. They usually act as an extension to your browser or an application on your smartphone and act as your day-to-day wallet of choice, the first and most beginner-friendly choice for new crypto users.
Hot wallets are defined by how often they are connected to the internet. Browser extension wallets like Meamask and Rabby are considered “hot” wallets since they are connected to the internet most of the time. Due to their constant availability, they are usually considered more user-friendly but also less secure. Some hot wallets have an extra concern, too - who has “custody” of the assets in a hot wallet? If you have a wallet where you don’t have direct access to the private key or shared access, this is an example of a wallet where you don’t fully control access to your crypto. Thankfully, these kinds of wallets are becoming less and less popular.
On the other hand, cold storage crypto wallets are a type of crypto wallet not connected to the internet. Since cold wallets aren't connected to the internet, they're less likely to be exposed to online threats like malware or phishing attacks and generate your keys offline. Additionally, their separation from smart contracts and their need for offline signatures prevent unwanted approvals that could cause losses. This makes cold wallets one of the best ways to store your cryptocurrencies.
Now that we understand the difference between hot vs. cold crypto wallets, let’s see where hardware wallets fit into this picture.
First, we must note that the terms 'hardware wallet' and 'cold wallet' are not interchangeable, even though a hardware wallet can serve as a cold wallet. Technically, every new account created on your hardware wallet becomes a cold wallet. However, once the hardware wallet connects to a blockchain app, that specific account is no longer a cold wallet. Signing any approval with an account can compromise its security.
A hardware crypto wallet is a physical device with small hardware with a few essential functions, a couple of buttons, and maybe a small screen, much like a computer that securely stores a crypto user’s private cryptographic keys offline. These keys can be used later to complete a cryptocurrency transaction. Unlike traditional physical or fiat currency wallets, a crypto hardware wallet technically holds no coins. Instead, it safely stores the user’s keys to access their blockchain assets. Access to the private key enables hardware wallets to seem to be directly holding the coins, but we are getting a little too technical now.
Most hardware wallets, like Trezor and Ledger, can interact with multiple blockchains at once, enabling users to manage various types of coins from numerous exchanges on a single device. The data within a hardware wallet can be easily protected using a PIN code or other authentication methods.
In most cases, hardware wallets come with a companion app that acts as a secure client from which users can manage their assets, send transactions, and generally manage their assets. This is the safest way to trade digital assets, as users have custody of their tokens at any moment.
While setting up this type of account is most user-friendly on a hardware wallet, it’s also possible to use or paper wallets as your cold wallet. That’s why these terms are not synonymous at all. However, hardware wallets are still the most popular and user-friendly way to set up and manage a cold wallet.
Let’s see how hardware wallets work, how they send transactions using the companion app we’ve just mentioned, and how they’re built.
As we’ve said above, cryptocurrency hardware wallets generate private keys and provide users an offline, “cold”, physical space to store and protect these private keys.
To operate correctly, a hardware wallet must have a few different features, both digital and physical:
A Computer Chip
The computer chip serves a critical role in a hardware wallet. This chip stores your private keys securely and isolates them from your computer or smartphone, which might be connected to the internet. The chip in these wallets is often a secure element–the same type used in passports and credit cards. Its purpose is to generate and store cryptographic keys securely, and it provides strong security features to protect the stored information. It is designed to resist physical attempts to retrieve the data, making your keys safe even if the wallet falls into the wrong hands.
Not all hardware wallets use a secure element, and the level of security can vary from one wallet to another.
Operating System Designed For Private Keys
The operating system in a hardware wallet is engineered for handling private keys. It generates and manages these keys in a secure environment and facilitates the signing process during transactions. It ensures the private keys never leave the device, adding an extra layer of protection against online threats. This makes hardware wallets a highly secure method for storing and using cryptocurrencies.
An Interface For Interacting With the Blockchain
When a user wants to interact with their cryptocurrency, i.e., spending, transferring, or swapping assets with another user’s wallet or smart contract, the transaction must be cryptographically “signed” using a unique private key. As we said above, hardware wallets usually use a companion app, software that enables the hardware wallet to connect directly to the blockchain while staying offline.
Let’s see in better detail how hardware wallets process blockchain transactions.
Hardware wallets process blockchain transactions similarly to most wallets that use public and private keys. Typically, they first connect to a companion app. The companion app then transfers unsigned transaction data to the hardware wallet that will present you with the intent (essentially the full details of a transaction in an unsigned state), prompt you to sign, and transmit that transaction to the blockchain.
Let’s illustrate how hardware wallets process blockchain transactions step-by-step:
In short, the hardware wallet uses the private key to open the lock to a user’s private address on the blockchain.
The most important part about this process is that at no point do the user’s private keys leave the hardware wallet. They are, therefore, secure from malicious online actors.
Now that we know what hardware wallets are and how they work, let’s look at their benefits and disadvantages:
While the security benefits of a hardware wallet are evident, it's important to be aware of some drawbacks:
Now that we know what hardware wallets are, how they work, and their benefits, let's understand how to choose the right hardware wallet
There are 7 key things you should look at when choosing the best hardware wallet to store your cryptocurrencies:
In conclusion, a hardware crypto wallet is a secure physical device for managing cryptocurrencies by keeping your private keys offline, reducing hacking risks.
Despite some drawbacks like cost and potential setup difficulties, the enhanced security and control over your assets generally outweigh these.
It's essential to research before choosing a hardware wallet, considering its security features, ease of use, supported currencies, and reputation. In the cryptocurrency world, where security is paramount, a hardware crypto wallet is a valuable tool for protecting digital assets.
