Crypto 101: How to choose a stake pool
4 factors to consider before becoming a stake pool delegator
Choosing a stake pool is an important decision for any Cardano stakeholder. BUT there are an abundance of options available, each with their own unique set of perks and drawbacks. So – how do you choose?
Well, my friend, stick around and find out. In this article we’ll go over # important factors for any potential delegator to consider before choosing a stake pool. Oh, and if you’re wondering, “what even is a stake pool, anyways?”… Stop right here – do not pass Go, do not collect $200 – and check out our Stake Pools 101 article first.
Ready? Let’s go…
1. Stake Pool Performance
Easily the most important metric to consider is how the stake pool is currently performing and has performed over time. As you know, pools will only receive rewards for the blocks they mint on the blockchain, which means you’ll want to consider well-maintained pools that have a proven track record in order to maximize your Return on Stake (ROS).
However, it’s important to remember that evaluating pool performance can be a bit tricky. The number of blocks that pools (particularly smaller pools) create can fluctuate greatly. So does that mean you’ll always want to join with a large stake pool? Well, not necessarily… but more on that later. Just be aware that if a pool has a low ROS during an epoch, it doesn’t strictly mean poor performance. In order to get a clearer picture of the pool’s capability you’ll need to evaluate its performance over many consecutive epochs – particularly if the pool has not been active for a long period of time.
2. Stake Pool Size & Saturation
When we talk about the size of a stake pool, we’re really talking about its stake value, i.e. the amount of ADA a pool has in stake. While larger pools can typically mint more blocks on the blockchain, there is a mechanism in place to prevent them from becoming too large and keeping smaller pools from being able to mint blocks. Pools on the Cardano blockchain have a set saturation limit of 61 million ADA. If a pool’s stake total goes over the saturation limit, it will have a negative impact on the rewards that pool can generate. This way, potential stakers are more likely to delegate to smaller pools that fall below the saturation limit, which in turn helps support decentralization.
With that in mind, when considering a stake pool, look at the average pool rewards you over time. Since there are fewer stakers in a smaller pool, more rewards will be divided equally among them, however, these pools will statistically produce fewer blocks. Meanwhile, a larger pool will mint more blocks but its payout will be smaller for delegators.
In the long run, as long as the bigger pool isn’t at or above the saturation limit, the rewards will remain the same. Additionally, since the block minting process is a random selection, some pools may have good or bad luck “streaks.” Cardano, for instance, aims for a ROS of around 4.6%. Because large pools have a lower variance in the number of blocks they mint per epoch, they tend to pay out more consistent rewards. Whereas small pools with more variation in the number of blocks they produce per epoch have a greater variation in the rewards they generate, but they will average out to the expected amount over time.
3. Fixed Costs and Variable Fees
Fees and costs are collected by the stake pool operators for managing and maintaining a pool, or in some cases such as with NEWM stake pools, they can be used to help fund growing projects. The fixed fee of a stake pool is an amount of ADA taken from the total rewards the pool produces in an epoch, in other words this fee is not charged to delegators directly. The current minimum fixed cost throughout the Cardano network is 340 ADA (though some pools may charge more).
Variable fees (AKA a pool margin) on the other hand, are the share that the stake pool takes from the rewards generated. Liked fixed costs, variable fees are not charged directly to a delegate; they’re a set percentage taken from of the total rewards a pool generates after the fixed fee has been deducted but before rewards have been distributed pro-rata. Theoretically, variable fees can range between 0-100%, however a range of 0-5% is most common. And while the difference between 1% and 5% may seem like a significant jump, in actuality the impact of margins within this range on delegators is fairly low. But how does this work in practice? Let’s say a pool has a variable fee/margin of 2% – if the pool generates 1000 ADA in rewards, it will claim just 20 ADA for itself with the rest going to delegators.
4. Stake Pool Pledge
The Pledge simply refers to the amount of ADA that the pool operator(s) have staked in their own pool – or how much skin they have in the game so to speak. Using this metric, delegators can see how invested operators are in their pool’s success. This means that if a pool fails, the operator not only misses out on collecting fees for the missed blocks, they also lose rewards on their own pledge. Additionally, in terms of rewards that delegators earn, the pledge has a small impact known as the pledge influence factor, which is currently set to 0.3.
The Big Picture
Choosing a stake pool is an important decision for any Cardano stakeholder, and as such, requires a bit of time and research in order to make a sound decision and get the best possible return on your investment. By considering the factors listed above, you’ll be able to make an informed decision and determine which stake pool might work best for you.
If you’re ready to join a stake pool and want review these and other factors, here are some helpful community-built tools you can use:
Finally, if you’re interested in supporting NEWM and our vision for a fair music streaming marketplace for artists and fans, consider joining one of our stake pools. You can check the full rewards and benefits here and check our performance indicators by searching one of the tools listed above using our ticker: NEWM.
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