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If you’ve been mining cryptocurrency or investing in crypto for some time, you may have heard of a cryptocurrency fork. But how to fork a cryptocurrency is not something that most people understand.
A cryptocurrency fork occurs when the blockchain on which the currency is based splits in two. A blockchain is a shared digital ledger that keeps track of vast numbers of transactions. These transactions are verified by independent parties, called miners, using sophisticated software.
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When a cryptocurrency forks, two miners have found the same block in the chain to verify at the same time.
Essentially, a fork is a change in the blockchain’s protocol that the software uses to decide whether a transaction is valid or not, according to Commodity.com. Therefore, the block will be declared valid on one fork and invalid on the other fork, creating two chains that branch off from each other.
One chain will use the new software protocol while the other fork in the chain will continue with the old protocol.
Sometimes, a fork will occur accidentally from two miners unintentionally mining the same block at the same time. This situation is typically resolved quickly as miners continue mining on one fork or the other. The miner with the transaction on the abandoned fork will lose the rewards from that mining transaction, but it won’t have a huge effect on the overall blockchain. Most investors won’t even realize it happened.
Other times, a fork occurs purposely, resulting in a new form of cryptocurrency.
It’s important to realize there are two kinds of forks, hard forks and soft forks. Each can affect the cryptocurrency differently.
A soft fork occurs when a software upgrade takes place but the new chain is backwards compatible with the old chain. No new cryptocurrency is created and the blockchain continues as it had, but with slightly different operating protocol. Think of it as when your iPhone upgrades to the newest version of iOS overnight. You may have a few new emojis or have to sign into your apps again, but it’s still the same phone.
A hard fork, on the other hand, splits the blockchain in two, creating a completely new cryptocurrency. The new version isn’t backwards compatible with the old version. To continue the phone analogy, it’s as if you woke up to find your iPhone turned into an Android, and you’d have to choose if you wanted to keep it or go back to iOS.
When a cryptocurrency experiences a hard fork, an entirely new cryptocurrency is created from the fork, with new rules and a different value. A new coin is created from the fork. Investors would receive the same amount of coins in each branch and then have an opportunity to choose which branch they’d like to keep.
When a hard fork occurs, usually one fork will disappear after some time, or — more commonly — both chains will remain active as their own coin. For a hard fork to happen, miners and developers alike must agree to accept the new software protocol.
Forks can take place intentionally and are precipitated by developers making a decision to change the protocol of a blockchain. They might occur for a number of reasons:
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One of the most famous cryptocurrency forks was the Ethereum Classic split, which took place after the decentralized autonomous organization running on the Ethereum platform was hacked. Roughly 3.6 million in Ether was stolen from investors and never returned. This caused a split in the community and many abandoned Ethereum Classic (ETC) to invest in Ethereum (ETH), instead. ETH got a massive surge of Initial Coin Offering investments that led to tremendous growth.
Today, ETH remains the more popular, higher value investment, trading at more than $1,200 USD per coin today, according to CoinMarketCap.com, compared to ETC’s value of just under $15.
Another well-known cryptocurrency fork occurred when Bitcoin forked into Bitcoin Cash.
Ethereum runs on its own blockchain and is not a Bitcoin Fork. Ethereum is the largest alt-coin — any cryptocurrency other than Bitcoin — based on market capitalization, with a market cap of $149,248,862,620 and rising today, according to CoinMarketCap.com.
Bitcoin forks still being traded today include Bitcoin Cash, Bitcoin Gold and Bitcoin SV.
It would be hard for a retail investor or a miner to create a fork of any cryptocurrency, including Bitcoin. Forks can generally only be created when there is consensus amongst the majority of miners and developers.
A fork can be initiated or suggested by a community member, miner or developer, but it cannot be accomplished alone. Especially in the case of a hard fork, all validators in the network must upgrade to the new protocol.
Miners may accidentally create a fork, as addressed above, but those forks usually work themselves out over time, with one branch of the chain falling into dis-use.
When a cryptocurrency forks to create a new coin, investors are left with a choice of where they want to keep their investment. Before you decide, you’ll want to research some of the history of how the fork occurred. You also want to consider which branch has more investor support. You’ll want to study the philosophies and ideologies of the developers in support of each branch. And you’ll also want to consider the security of each branch.
When Ethereum split into ETC and ETH, many people stuck with ETC because they did not agree with the practices of the original ETH and preferred the honesty, transparency and ideals of ETC. However, ETH is, thus far, the more profitable investment.
Forks can be used to enhance the security of a network and address shortcomings in the original blockchain, so many people tend to view forks as being good for cryptocurrency. Especially in the case of hard forks, where new forms of coins are created, investors now have more options to build a diversified portfolio.
Some forks are planned by the developers and may be preceded by large price fluctuations as developers debate the merits of protocol changes for the new fork. If you believe the fork will be positive based on the fundamentals, it could be a good time to invest in the cryptocurrency or increase your position. When the blockchain forks, you’ll essentially receive “free” coins from the split.
However, many investors often cash in on their profits following a fork, which could cause the value to drop. If you plan to buy and hold, investing before a fork may be a good idea. But if you’re nervous about trying to time the market or you are a risk-averse investor, you may want to avoid crypto on the verge of a fork.
Investing in cryptocurrency is highly speculative. If you have high risk tolerance, you could win big from investing in cryptocurrency just prior to a fork or taking a chance on a new coin created during a fork.
You can invest in crypto using any of the best crypto exchanges of 2022.
Information is accurate as of July 14, 2022.
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