What to look for when choosing a Cardano pool?

At first, Cardano might appear to have a complicated staking system, but in reality it's quite simple. In this article we will begin by outlining Cardano’s staking architecture before moving on to the key factors about validator pools that will affect your Return-on-Assets (ROA). By the end of this article, you will be able to confidently select a validator pool that is the right fit for you.

Staking Architecture

To get a better understanding of the whole staking architecture, let's first start with how rewards are generated. Within each epoch, fees from network operations and new emissions are collected into a fund. Part of these collected assets goes to the Cardano treasury, while the rest is distributed to validators and delegators as a reward for their commitment to securing the network through staking.

The validator's role is to secure the network. They are responsible for confirming the validity of new blocks of transactions which are then added to the network's ledger. Every time a new block is added to the ledger, validators are rewarded with staking rewards.

Cardano token holders can earn staking rewards by delegating their ADA assets to one of the many available validator pools. By delegating your ADA to a validator pool, you are providing this validator with your tokens rights to participate in the validation of blocks. Validators will redistribute their earnings to their delegators pro rata to their stake.

A validator's probability to be allocated a block to produce, depends on a number of factors. Pool saturation, which refers to how much stake a particular pool has, is the most important factor when it comes to allocation of new blocks. The higher the pool saturation, the higher is the amount staked in the pool. The greater a pool's stake is, the more blocks will be allocated to them. If the pool does not have enough stake to be allocated a new block, it can take as long as 5 or 50 epochs before they will produce a block.

So what factors are important to take into consideration when selecting the right validator pool? Below we explain the several key factors to take into account.

Important factors when selecting a validator pool

Pool saturation

The Cardano staking architecture was created in a way that pool saturation does not have a significant effect on ROA in the long run.

Pools with larger stakes will have more blocks allocated to them and therefore will generate more rewards, but they will also have to distribute it amongst more delegated stake. Smaller pools will produce blocks less often, but will generate a high return to their delegators when they do.

One has to consider their strategy when deciding which pool to select: Whether they would rather choose a pool with high saturation that will produce more blocks and distribute rewards more evenly and frequently, or choose a less saturated pool that will produce fewer blocks but distribute greater rewards when it does.

However, in order to promote decentralisation, the Cardano protocol has a cap on the amount of rewards a validator's pool can receive. Therefore, if a pool is oversaturated, the rewards received for producing blocks will have to distribute between all the ADA that was delegated to that pool. This leads to lower rewards per each ADA delegation. The current oversaturation limit is 64 million ADA.

Pool Fees (Margin)

Validators may charge a fee (margin) for maintaining its pools, keeping a percentage of all rewards received. The usual margin for public pools is between 1 and 3%, which has a very low impact on rewards. For example, even if you stake 1 million ADA on nodes with 0% and 1% commission (let’s take average nodes with 50% saturation), the difference in rewards between them will be about 5-10 ADA per epoch.

Do note that validators can set the fee up to 100%, so it is important to check that the commission is not set too high.

Pledge

A pledge is an amount of assets self-bonded by the validator intended to remain staked to its pool for as long as it operates. It can affect ROA, but only very slightly. Below we will take a look at an example.

As an illustration, let's look at the change in the possible ROA depending on the pool parameters:

Let's imagine we have three pools, each with a saturation of 30 million ADA. Each of them has the following pledge values:

Pool 1 - 10,000 ADA,

Pool 2 - 100,000 ADA  

Pool 3 - 1,000,000 ADA

If you were to stake 10 million ADA, you would get the following ROA on each pool:

Pool 1 - 3.958%

Pool 2 - 3.960%

Pool 3 - 3.982%

As we can see, although there is a difference, it is not significant.

Luck

Luck reflects the protocol randomness in the allocation of blocks. When a pool gets allocated more blocks to generate than expected, the luck metric is greater than 100%. If a pool gets allocated less blocks than it would be expected then that number is less than 100%.

Pools experience this metric every epoch regardless of their size and it is completely random, so smaller pools will see swings between 0% and 100% during long streaks, whereas larger pools will see higher returns in the same period. Over a long enough period of time, the expected APY on rewards will average towards the network expected value.

It's important to keep in mind that block allocation is calculated on the basis of statistics. If a pool has gotten more than it's expected share of blocks in the past, future block allocations will be lower and vice-versa.

Reliability and Reputation

Since Pool Saturation, Pledge and Luck do not have a significant impact on ROA in the long run on pools with similar fees, the main consideration a delegator needs to have when selecting a validator pool is the validator’s reliability. In case of failures, errors, etc., no blocks will be created and consequently no participant will receive any reward. So when choosing a pool, this decision should be made responsibly to be sure that the infrastructure is maintained without failures. You can analyse validators' historical performances on explorers.

Let's take an example with one of P2P’s pools. Using the following link to the explorer, you can verify the performance and configurations of P2P. You can see that the saturation is less than half, it has a margin of 0%, a pledge of 1M ADA and it has a ROA of around 4-5%.

Delegating to a public node is not the only way to stake. Many experienced validators, including P2P, provide the option to maintain a whitelabel node for large token holders. Essentially, a team would be responsible for maintaining the node, but it would be managed and owned by the token holder. In other words, a DevOps team would solve all the technical issues, whereas the owner would control the margin, marketing, etc.

Takeaways

The Cardano staking architecture was designed in a way to provide all well performing staking pools with similar profitability opportunities, regardless of the size of their stake. Therefore, when selecting a public node, the most important consideration is the fee, the stability and reliability of the validator. Validators with low up time, or in cases where technical failures occur, may miss blocks and as a result delegators will lose out on potential rewards.

About P2P Validator

P2P Validator is a world-leading staking provider with the best industry security  practices and proven expertise. We provide comprehensive due-diligence of digital assets and offer only high class staking opportunities. At the time of the latest update, more than 1.5 billion USD value is staked with P2P Validator by over 25,000 delegators across 40+ networks.

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