Before we answer this question, let us explain what a cryptocurrency is. Cryptocurrency is a pair of public and private keys and a public ledger of all cryptocurrency transactions, also referred to as the Blockchain.
The public key is the actual cryptocurrency address, also known as the Bitcoin address. The private key is the proof to confirm that the balance stored at that public address belongs to the owner of the private key. We can compare the public key to a bank account number and private key to internet banking credentials.
To transfer cryptocurrency from one address to another, the sender needs to use their private key to sign the transaction. Once approved, the transaction is stored in the Blockchain.
While the public key needs to be provided to execute a transaction (just like when you provide your bank account number), the private key must be kept secret (just like you never disclose your internet banking credentials). Anyone who has access to the private key can initiate the transfer of cryptocurrency balance stored at the respective address, represented by its public key.
Sadly, it is not uncommon for users to lose their private keys. Without the private key, there is no way to access the cryptocurrency (balance) protected by the private key. In other words, if you'd ever lose the private key, you would lose your cryptocurrency funds protected by that private key.
Therefore, to keep the cryptocurrency balance secure, it is crucial to keep the private key safe.
Typically, users store private keys using these four ways:
- using a software wallet app, such as Electrum,
- using a hardware wallet, such as Ledger or Trezor,
- using a paper wallet, printed on a piece of paper,
- using an online wallet service, such as Freewallet.
Software cryptocurrency wallets
Software cryptocurrency wallets are the most typical way to store cryptocurrencies. A software cryptocurrency wallet is a desktop or mobile application designed to secure cryptocurrency (and the private keys). The wallet interacts with the cryptocurrency's public ledger (Blockchain) over the internet and lets users store, send, and receive the digital currencies.
To keep the cryptocurrency funds stored in the software wallet secure, it's imperative to:
- choose a trusted & secure cryptocurrency wallet app,
- use the app on a trusted device (computer or mobile),
- utilize another password to protect the wallet.
The highest vulnerability of software cryptocurrency wallets is that they are usually installed on a device (computer or mobile) that is continuously connected to the internet. If an attacker gets access to one's computer (over the internet), they can eventually access the software wallet installed on that computer. Therefore, it is highly recommended to password-protect the software wallet.
Software wallets are great and a convenient way to do regular cryptocurrency transactions. However, users with more significant amounts of cryptocurrencies usually store only a minor part of their crypto assets in their software wallets. At the same time, they hold most of their funds in hardware wallets.
Online wallet apps
Online wallets are an alternative to software wallet apps. Their most significant advantage is their convenience. To start using an online wallet, the user does not need to download and install any software. To get an online wallet app, all user needs to do is create an online account.
Another advantage of online wallet apps is that users can easily buy or sell cryptocurrencies. To do so, however, the user usually needs to verify their account by going through the AML / KYC process—losing the benefits of holding funds in cryptocurrency privately.
While online wallets are a convenient way to store cryptocurrencies, they suffer a major flaw. The online wallet provider needs access to your private key to initiate transactions on your behalf.
Providing the private key to an online wallet means that you must trust the online wallet. Even worse, the private key must be kept online and available for the online wallet to initiate transactions. This makes the online wallets vulnerable to manipulation by wicked employees, hackers, or government institutions.
There have been numerous cases where online wallets have been attacked, and the funds of their users stolen. Therefore, if you want to keep your cryptocurrency safe, we recommend you to avoid online wallets altogether.
Hardware cryptocurrency wallets
Unlike a software wallet that stores the user's private key on the user's computer, the hardware wallet is the most secure cryptocurrency wallet that stores the user's private keys in a secure hardware device.
Since the hardware wallet is an offline device, not accessible via the internet, it is considered as one of the safest methods for storing cryptocurrencies.
Due to their heightened security and resistance against hacking attacks, hardware wallets are the top choice of cryptocurrency investors and users who want to store more significant amounts of cryptocurrencies safely and securely.
A paper wallet is an alternative to a hardware cryptocurrency wallet and undeniably the most secure wallet for cryptocurrency. While hardware wallets store the private keys on a hardware device, paper wallets let you "physically" store the private key printed on a piece of paper.
Paper wallets are recognized to be one of the best ways to protect your cryptocurrency from cybercriminals. The only vulnerability of paper wallets is physical security and accessibility.
Anyone with physical access to the paper (wallet) can access the cryptocurrency funds stored in that wallet. Therefore, paper wallets need to be protected and secured the same way as any other valuable physical assets, ideally, in a safe or a bank safety deposit box. However, when physically secured, paper wallets win the battle of the most secure type of cryptocurrency wallet.