Bitcoin Mining’s New Protocol: Stratum V2
Understanding the New Pooled Mining Protocol’s Past, Present & Potential to Shape the Future of Bitcoin Mining
Abstract
Stratum V2 (V2) is a new protocol for pooled mining that improves the efficiency, security, and decentralization of bitcoin mining. Designed to be flexible and extensible, it seeks to improve upon and replace its predecessor, Stratum (V1), ultimately becoming an industry standard for mining. This piece looks at what V2 is, how it is different from V1, and the potential impacts its widespread adoption could have on the future of pooled mining.
INTRODUCTION
What is this piece about and what was the motivation for writing it?
In late 2019, the Stratum V2 (V2) protocol was released as an upgrade to Stratum (V1), a protocol widely used in cryptocurrency mining, and specifically in pooled mining. V2 is designed to improve upon the decentralization, security, and efficiency of bitcoin mining. This piece aims to educate the reader as to what Stratum V2 is, provide a basic overview of the history that led to its development and release, discuss its core features, and, finally, consider how its widespread adoption as an industry standard protocol could shape the future of pooled mining.
We at Urkel Labs, as mining pool operators, have a keen interest in Stratum V2. Upon its announcement, we became interested in the prospect of implementing V2 for a number of reasons from potential cost savings associated with higher efficiencies to improved security to expanding our services to meet customer needs. As always, we strive for excellence when it comes to satisfying our customers. One thing we found peculiar, however, is that none of our customers explicitly requested or even inquired about the potential of Urkel Labs implementing a version of V2, despite one of its overarching goals being to put the power back into the hands of the miners by enabling them to select their own work. This begged the question: are miners actually interested in selecting their own work?
The more we researched V2, the clearer it became to us that it was (and is) still a work in progress. This led us to gather more information and to explore a number of more nuanced questions we had about the new protocol: How is it different from V1?
What were the motivations for developing it? How far along is it in development? What mining pools, if any, have already implemented it? What are the pros and cons of Urkel Labs deciding to move forward with it? How does V2 stand to influence the future of bitcoin mining?
This piece is the product of that research and exploration. Our motivation for creating a more formal public-facing piece was three-fold. First, we were driven by a curiosity to better understand Stratum V2 both at the technical level as well as from a market perspective. Second, we aimed to create an informative piece with consolidated resources about V2 that others involved and/or interested in mining in order to help educate them about various aspects of the new protocol, and also to give them a launching point should they desire to conduct further research. Third, we sought to envision potential opportunities that may arise and the ways in which mining market dynamics may shift should V2 become widely adopted by the mining community.
Who is the piece intended for?
This piece is intended for a wide audience within the mining community, though those not directly involved with mining can find it interesting and useful as well. The mining community audience includes, but is not limited to, hashers, pool operators, hardware manufacturers, mining farm operators, and investors. To that end, it assumes a general familiarity with the mining pool ecosystem — from the roles of its players (e.g., solo hashers vs. pool operators vs. farm operators) to a basic understanding of the infrastructure (e.g., ASIC vs. FPGA, client vs. server vs. proxy).
That said, the content generally stays at a high level so that even crypto enthusiasts with little or no exposure to mining should be able to grasp core concepts. While it does get into the technical weeds at times to help paint a fuller picture, it is not necessary for the reader to understand these technicalities in order to derive value from the piece.
How is it organized?
The piece is organized into three main parts.
Part 1, Looking Back: A Brief Mining History & Ecosystem Overview, sets the context for the rest of the piece. It provides a refresher and reference that describes bitcoin mining in terms of its history and the role it serves in securing the network. It also describes the roles and functions of the ecosystem’s key players and infrastructure involved. This helps to contextualize a brief discussion about centralization in the mining industry generally and within mining pools specifically. Finally, the section closes with a description of important evolutions and events in the history of bitcoin mining that contributed to the conditions and motivations for developing the Stratum V2 protocol.
Part 2, Looking at Stratum V2, examines the protocol in more depth. It does so from a semi-technical perspective and is intended to leave the reader with a fuller understanding of Stratum V2 in terms of its goals, features, benefits, and current status. It looks at V2 from three angles. First, it discusses the protocol’s overall design goals: efficiency, security, and decentralization, as well as the underlying flexibility built into the protocol. Second, it examines V2’s features in terms of the potential benefits they offer in four areas: cost savings, submission rates, security, and miner autonomy. Third, it explores the protocol’s current state of development as well as its adoption across the mining industry.
Part 3, Looking Forward: Exploring Opportunities and Stratum V2 Widespread Adoption, is a more speculative discussion that considers potential impacts widespread V2 adoption could have on mining pools specifically, and on the mining industry more generally. Like the wider cryptocurrency industry, the mining industry is rapidly evolving and there exist myriad possibilities as to what it will look like in the future. A host of factors stand to shape it — from macroeconomic and geopolitical influences to industrial hardware production to local governmental policy. Therefore, in an effort to remain within the scope of this piece, we have decided to focus largely on possibilities that could result directly from the adoption of Stratum V2 as an industry standard for mining, though the final section considers a broader perspective.
Here, it should be noted that, while much of this piece aims to present information objectively, some subjective decisions were made (e.g, the four key areas of potential benefits of V2). This was in an effort to help the less-technical reader more easily digest this, at times, highly technical topic. Similarly, the discussion in Part 3 about the future is subjective and purely speculative; the opinions presented should not be considered investment advice.
PART 1 — Looking Back: A Brief Mining History & Ecosystem Overview
Mining is considered to be bitcoin’s backbone. Miners secure the network through validating and processing transactions, and mining is the mechanism through which newly minted bitcoin tokens enter the network. Without mining, bitcoin would not exist in its current form. Similarly, bitcoin as we know it today, would not exist without mining pools, which are almost as old as the network itself.
Satoshi Nakamoto mined the first bitcoin in January 2009 [1]. Less than a year later, in December 2010, Slush Pool, the bitcoin network’s first known publicly available mining pool, Slush Pool, mined its first block [2]. Since then hundreds of bitcoin mining pools have emerged. Many of those have since closed shop. Still, dozens operate today, a few of whom own a sizable portion of network hashrate.
Pooled mining is important because it allows independent miners to reduce their payout variance. In other words, pools enable miners to get paid in smaller amounts but more frequently than they would if mining solo. Since mining is becoming an increasingly costly endeavor, due in large part to higher energy consumption costs associated with higher difficulty, this is essential to the overall health of the network because it allows more miners to participate in securing the network.
The Mining Pool Ecosystem: the Players and Infrastructure
The pooled mining ecosystem essentially has two players: the hashers, whose miners (i.e, physical mining devices) use hashpower to try to find a new block and connect to pools who distribute jobs and payouts to miners. Many different types of hashers exist, from individuals with one or two miners in their garage to large scale mining farm operations that consist of tens or even hundreds of thousands of miners. Still, the infrastructure that connects miners to pools is the same despite a hasher’s scale. Miners connect with a pool’s servers via proxies using a protocol, or specific set of rules for communication, in order to receive work from the pool.
Pools allocate specific jobs to specific miners, who in turn try to find new blocks, which include ~2,000 valid transactions. Once a miner thinks it has found a new block (or, what is close to a new block) it submits that work (called a share) back to the pool over the protocol. The pool, in turn, checks the miner’s work and, if it looks good, shares the block with the rest of the network to validate.
However, the bitcoin network itself does not differentiate between pooled miners and solo miners. That is, from a network perspective, a pool’s valid block submission effectively looks the same as that of a solo miner. This explains why mining pools own the majority of the hashrate distribution, despite the fact that pools collectively consist of millions of individual miners.
Often critics point to this distribution of hashrate (or lack thereof) and call out trends toward centralization. While there are arguments that the mining pool industry remains more competitive than the statistics seem to suggest, centralization in mining remains a concern [3].
Centralization Concerns in Mining & Mining Pools
Generally, centralization risks fall into three main buckets within the mining ecosystem: 1) geographic location of hashpower; 2) hardware production; 3) pool operation [4]. Concerns around geographic location of hashpower relate to consolidation at the nation-state level (e.g., the Chinese government’s involvement in mining), the mining farm operation level, as well as public/private partnerships whose legality is questionable. See Figure 1 on the following page for a chart illustrating the centralization of geographic location of hashpower.
Figure 1: Centralization of Geographic Location of Hashpower
Similarly, hardware production risk is a multi-pronged issue. Of course, centralization of ASIC manufacturers, such as Bitmain, poses a host of risks. However, the risk also extends to manufacturing at the component parts level. For example, less than a handful of companies in the world have operations that can support production 7nm chips (the most efficient chip on the market today) that are found in state of the art ASICs [4].
While centralization relating to geographic location of hashpower and hardware production are a top concern for the future of mining and the bitcoin network at large, pool operation centralization is of prominent concern today because it relates to the protocol itself. To state this differently, hashpower ownership and hardware production centralization are influenced by forces external to Bitcoin Core, forces such as geopolitics, broader market competition for materials, and energy dynamics.
Figure 2: Hashrate Distribution by Pool
However, addressing centralization at the pool level is a lower hanging fruit, so to speak, in that pools’ operations are directly informed and influenced by bitcoin’s code base and the protocol extensions built on top of it. It is for this reason (among many others, of course) that motivated Jan Čapek, Pavel Moravec, and Matt Corallo to develop the Stratum V2 protocol (V2).
Before taking a closer look under the V2 hood, it will be helpful to understand key elements in the evolution of bitcoin mining and mining pools. In doing so, we will be better equipped to understand the conditions that brought V2 about as well as the importance of its features and potential benefits that we discuss in the next section.
A Brief Background on Stratum V2
The bitcoin client, the bitcoin software users install on their machines, contains a list of API calls, or commands that nodes, such as miners, use to communicate with the network. The original bitcoin client contained an optional command, getwork, for miners to get hashing work to try to solve [5,6]. In other words, it was the part of the puzzle that miners needed to solve — the block header — in order to add blocks to the blockchain. For reference, other API commands involved with submitting valid blocks in order to collect the block reward of new bitcoins included getblocktemplate, which returns information about what a valid block needs to include, and submitblock, which actually attempts to submit a new block to the network.
As is still the case, mining pool operators interacted with the bitcoin network on behalf of the miners in their pool. So the pools would actually send getwork to the network, then, based on the work received, they’d allocate aspects of that work to the miners in their pool. That way the miners could focus on doing the actual hashing to solve the getwork piece of the puzzle and the mining pools could focus on the other aspects of submitting blocks such as creating block templates with getblocktemplate and actually submitting blocks to the network with submitblock.
Figure 3: Pooled Bitcoin Mining Workflow
As is also the case today, centralization in mining quickly became of concern. Since getwork only consists of block headers for miners to solve, miners who are mining with a pool are kept in the dark as to what the block actually contains. That is, they defer all of their authority to the mining pool as to which transactions are included in the block and how their hash is used. To address this, in mid-2012 the bitcoin community developed getblocktemplate as a way to move block creation back to the miner [6].
Although getblocktemplate replaced getwork in the Bitcoin Core mining protocol, it was not, however, widely adopted in the mining pool community. Reasons for this, for the most part, boiled down to it being inefficient. Without getting too technical, these inefficiencies related to the data transfer (size and speed) between the pool and the miners, optimization of the miners’ ability to hash, and inability to scale with future developments to the bitcoin protocol. As an alternative to getblocktemplate, Marek “Slush” Platinus drew upon his expertise from operating Slush Pool for two years and developed a Stratum in the same year, 2012, under the name Bitcoin Pooled Mining Server [2].
Stratum was designed to improve how miners and mining pools work together in an efficient and profitable way, while also securing the bitcoin network. It was an overlay network built on top of the bitcoin network and it intended to hide “unnecessary complexity of decentralized protocol” [7]. Platinus’ expertise with pooled mining as well as with bitcoin itself informed some of the new protocol’s most important innovations, such as extraNonce rolling, which helps miners to increase the number of hashes they can generate.
A tradeoff he did have to make, however, was allowing miners to select their own transactions like they could do with getblocktemplate. This was a deliberate design decision for the sake of efficiency and it was one that Platinus was very aware of. As he wrote in Stratum’s official documentation:
“There’s really only one reason why Stratum is worse than the getblocktemplate solution at this time: miners cannot choose Bitcoin transactions on their own. In my experience 99% of real miners don’t care about transaction selection anyway, they just want the highest possible block reward” [8].
Nevertheless, the original Stratum protocol proved to have staying power. Implementations of it are found not only in bitcoin mining but in mining operations for other proof-of-work altcoins. Oddly enough, despite its widespread adoption and use, Stratum was never intended to be an industry standard. Therefore, the evolution of mining generally and mining pools specifically, was not carefully considered in its design. The result is a protocol for mining pools that is limited in efficiency and security.
Since Stratum was originally released in 2012, the bitcoin mining industry has changed drastically. The network hashrate has grown exponentially, hundreds of pools have emerged, miners have become more specialized and efficient, and, as discussed, many aspects of the industry are trending toward centralization.
Figure 4: Evolution of Miner Specialization Relative to Miner Difficulty
Efforts to fight the trend of centralization at the pool level have been around since the early 2010s. However, these efforts did not gain traction in the community in a meaningful way until 2018 with Matt Corallo’s BetterHash project, which aimed to increase security and efficiency in pooled mining, as well as move the power back to miners by allowing them to accept their own work [9]. Corallo’s efforts soon merged with those of the CEOs of Braiins (Slush Pool’s owner and operator), Jan Čapek & Pavel Moravec. The fruits of this synergistic collaboration is the Stratum V2 protocol, which emerged in late 2019.
PART 2 — Looking at Stratum V2 Today
As discussed, Stratum V2 (V2) is a bitcoin mining protocol. It is focused on improving the security, efficiency, decentralization, and flexibility in bitcoin mining [10]. Among a host of other short- and long-term benefits, it decouples payment distribution & transaction selection, two functions that have historically been combined due to limitations in Stratum (V1). This shifts power back to the miner by giving them the ability to select what they work on, instead of simply accepting work delegated by the pool. While V2’s potential impact on the entire bitcoin mining industry and beyond is far from realized, its goals stand to offer an open industry standard for mining in the years to come.
The discussion below considers V2 in terms of its high-level goals and design framework in addition to taking a lower-level look at the protocol by examining its core features in the context of benefits they offer. The section closes by briefly describing V2’s current state of development and adoption.
NOTE: for ease of reference, Features are listed under each subsection header in the “Features and Benefit Discussion” section below. While each subsection header was determined by the author, the features reflect those included on the Stratum V2 documentation page. For a more technical description of these features and the overall protocol, please visit: https://braiins.com/stratum-v2
50K-Foot View: Motivations Behind Stratum V2
The V2 specification document abstract opens with a clear purpose for the protocol upgrade :
“The current stratum protocol (v1) is used prevalently throughout the cryptocurrency mining industry today, but it was never intended nor designed to be an industry standard.
This document proposes a new version of stratum protocol that addresses scaling and quality issues of the previous version, focusing on more efficient data transfers (i.e. distribution of mining jobs and result submissions) as well as increased security. Additionally, the redesigned protocol includes support for transaction selection by the miners themselves, as opposed to the current version of the protocol in which only the pool operators can determine a new block’s transaction set.” [11]
Implicit in these statements are two intentions, or motivations, both related to one another.
The first is a more immediate one: to improve the protocol in a way the best reflects the needs of the wider mining pool ecosystem today. The updated protocol reflects the diverse expertise of the project team’s backgrounds. Matt Corallo, given his Core Developer experience, brought a wealth of knowledge about Bitcoin Core, protocol security needs, and mechanisms for miners to select their own work. Much of this expertise was reflected in his BetterHash proposal [12]. However, Corallo lacked the pool experience that Slush Pool’s Pavel Moravec and Jan Čapek brought to the project.
To this end, Pavel Moravec and Jan Čapek brought expertise developed from years of running Slush Pool. This experience contributed to a wealth of knowledge that informed aspects of protocol design that account for a number of factors that play out in the wider mining ecosystem, from the needs of mining farms to the physical infrastructure. As Corallo noted in a Behind the scenes interview,
“[Stratum V2] was developed with way more poolside knowledge. So way more knowledge about how pool servers work in practice. I’m no expert in this.” [13].
The team’s diversity of experience and expertise informed the more forward-looking aspects of the design.
A second motivation behind V2 is to become an industry standard for the bitcoin mining protocol. Similar to the getblocktemplate addition to Bitcoin Core in BIPs 22 & 23, a longer-term goal of V2 is to be adopted into Bitcoin Core [14, 15]. In fact, rework BIP310 scratch is an explicit design goal in the V2 spec [11]. (BIP310 was a draft submitted by Moravec and Čapek in 2018 as a mechanism for specifying stratum protocol extensions [16].) Such an adoption would mean that pools could speak more directly with Bitcoin Core than they can today, potentially rendering intermediate pool softwares obsolete. It is still unclear when, if, and how V2 adoption into Bitcoin Core may look. Nevertheless, the fact remains that if this design goal is accomplished it’s implications on bitcoin mining (and proof-of-work mining more generally) could be huge.
Upgrades from V1 & Design Framework
In many ways, Stratum V2 is a bit of a misnomer. It is less of a version update from Stratum V1 and more of a complete overhaul and redesign. True, V2 aims to address and fix issues associated with V1. However, the way in which it does this makes it look like a completely different protocol in many respects. From how messages are encoded and exchanged to flexibility and features included that were non-existent in V1, one could make a valid argument that V2 is a completely new protocol entirely. That said, from a design and branding perspective, the decision to name it Stratum V2 was a shrewd one given Stratum’s ubiquity, recognition, and widespread implementations that exist today.
As mentioned, V2’s design accommodates the needs and requirements of the full mining pool ecosystem, from the players to the physical infrastructure. Motivations for these design goals fall into three overlapping categories — efficiency, security, and decentralization.
These design goals are underpinned and complemented by V2’s implicit flexibility. Functionality, such as job selection described in the “Miner Autonomy” section below, was designed with the entire mining ecosystem in mind not only today but also for decades to come. Moreover, V2’s flexible design is meant to accommodate the array of needs different mining operations have, be it an individual with a single ASIC miner or an industrial-scale mining farm. This extensibility is a testament to the designers’ ambitions of creating a new industry standard for bitcoin mining.
In order to better understand how V2 achieves these goals from a feature perspective specifically, it is helpful to understand the more general protocol design framework.
Communication Channels
Similar to V1, V2 consists of a Mining Protocol that miners, proxies, and pools use to communicate with each other. Unlike V1, however, V2 goes on to define three types of channels through which miners, proxies, and pools communicate — standard channels, extended channels, and group channels. Each channel serves a specific purpose that enables miners and/or pools to capitalize on the protocol’s high level design goals. By the same token, these channels fit into the Mining Protocol’s sub-protocols: the Job Negotiation Protocol, the Template Distribution Protocol, and the Job Distribution Protocol.
Key drivers behind V2’s communication channels are to simplify communication between upstream pool servers and downstream mining devices. Standard communication channels are designed for efficient work distribution and job verification. These channels leverage a new feature called “header-only mining” that allows for a more lightweight version of mining and is discussed in more detail in the section below. Extended communication channels give mining operations, especially large ones, more flexibility as to how work is distributed to their miners. By giving extensive control over the search space to mining operations, these channels help to accommodate the implementations of non-standard and/or advanced use cases. Finally, group communication channels are essentially groups of standard channels distributed via an extended channel. For example, if a mining farm has 10,000 miners, a group channel allows a single proxy to distribute 10,000 jobs via a single extended channel instead of distributing 10,000 unique standard jobs to each miner. This is key for reducing bandwidth consumption and latency in job distribution [17].
Sub-protocols
V2’s three sub-protocols — Job Negotiation, Template Distribution, and Job Distribution — are optional protocols pools can implement that let miners select their own work. As their names imply, these protocols are designed to enable miners to negotiate their own jobs (e.g., which transaction sets should be included in a block), get information out of Bitcoin Core for the next block template (i.e., a replacement for getblocktemplate), and determine how work is distributed amongst mining devices. A primary implication of implementing these sub-protocols is to give control back to the miners. In other words, to decouple job selection and payouts — something that was not possible in V1 [17].
Figure 5: Stratum V2’s Optional Job Negotiation for Miners
Features & Benefits Discussion
In this section, we will describe V2’s core features listed on the protocol’s documentation website [17]. Many of the features listed on the website overlap and/or are subsets of another. Therefore, instead of going through each feature individually, we’ll discuss them in terms of potential benefits that fall into four general categories: cost savings, submission rates, security, and miner autonomy.
More specifically, we will look at these features in comparison to V1 and also discuss them through the lens of the three key categories of upgrades from V1 — security, efficiency, and decentralization — as well as the flexibility built into the protocol. This information will then serve as a basis and reference for the last section, in which we consider how widespread adoption of V2 stands to influence the future bitcoin mining industry landscape.
Like the content of the rest of this piece, the feature discussion below is intended for the wider mining audience, and written in language that both technical and non-technical readers can understand. However, it does assume a baseline technical understanding of core concepts related to mining, mining pools, and client-server relationships (e.g., bandwidth, CPU load, proxies, hashrate, share submission). If you are unfamiliar with any technical terms below that are not explicitly described, please refer to the “Defining Important Terms” section in the Introduction or to the Glossary. If you would like a more technical understanding, please reference the protocol documentation [17] and/or spec [11].
Cost Savings
Features: binary vs. non-binary, implicit work subscription, header-only mining, server CPU load, multiplexing
As is the case with most businesses whose products and/or services are delivered over the internet or other computer networks, data is a huge cost basis. This includes generating, transmitting, and storing data. These costs are amplified by associated energy costs. Gaining data and energy efficiencies help to reduce costs and to optimize overall system performance.
V2’s efficiency improvements from V1 are designed to optimize data transmission, resulting in lower costs. This includes areas such as how messages are encoded, job and block distribution, and firmware implementation. This ultimately boils down to optimizing hash power and more efficient job distribution. In terms of cost savings seen on data and energy bills for hashers and pool operators alike, V2 aims to achieve this in three areas: bandwidth consumption, CPU load, and connection complexity.
Bandwidth Consumption
In many regards, bandwidth is the life line for miners and mining pools alike. Poor connection means slower communication and, in turn, lower quality share submissions. Nevertheless, bandwidth consumption is central to any mining operation’s business model in that, aside from upfront costs and energy bills, it is a necessary cost of doing business. V2 is designed to minimize such bandwidth costs in two key areas.
First, messages are transferred via binary instead of JSON, like they are in V1. Given that communication happens between computers and not humans, text-based protocol such as JSON takes up unnecessary bandwidth. V2 is written in binary language (think 1’s and 0’s) that computers can understand and process messages more quickly. Computers can exchange the same information much more efficiently without sacrificing information transfer. Switching from JSON to a binary format decreases message size and, in turn, bandwidth consumption by 30% — 50% [17].
The second area V2 achieves bandwidth reduction is in eliminating unnecessary message exchange between the client and server, such as mining.subscribe, that is included in V1. In doing so, bandwidth consumption is further reduced.These efficiency improvements will positively impact both the miner as well as the pool. As discussed, cost savings will be realized on data bills. On the revenue side, parties stand to benefit from potential higher submission rates. For example, share submission messages in V2 are 50–70% smaller than in V1 [17]. This is discussed in more detail in the “Submission Rates” section below.
Figure 6: V2 vs V1 share submission message size
CPU Load
Like any computer system, a server’s CPU is considered to be one of its most important parts because it executes instructions. Therefore, reducing server CPU load is essential to promoting the efficiency of the entire network. In V2, this reduction is made possible by shifting more responsibility upstream from the actual miners to the proxies that connect them to the pools. As V2’s designers explicitly note in the documentation, “as pool operators ourselves, one of our motivations for reducing server CPU load is probably rather obvious — it reduces our overhead costs” [17].
V2 allows for reduced CPU load through efficiently caching, or saving data. This CPU load reduction is the result of one of the most innovative features in V2, “header-only mining”. Although the actual implementation of header-only mining is somewhat technical (server CPUs no longer need to recompute the Merkle root for every share submission) the idea is simple: reduce computing requirements for servers to allow miners to hash more effectively. Header-only mining is included as part of the standard communication channel described above. That said, larger mining operations can apply it for more advanced use cases with extended and/or group channels.
Connection Complexity
When it comes to connection, complexity is positively correlated with cost. As the V2 spec indicates, “every physical connection adds complexity and extra infrastructure overhead to mining operations” [17]. In order to reduce this complexity and, in turn cost, V2 implements a feature called “multiplexing”. Multiplexing allows for a single communication to be used for multiple devices, something that was not available in V1.
From a cost perspective, this is important because it allows for lower infrastructure costs to be realized across the pooled mining ecosystem. Especially for mining farms but also for smaller scale operations in some cases, multiplexing opens new possibilities to streamline the communication of a wide range of information to a wider range of parties with a simple connection. The overall reduction in infrastructure costs associated with additional proxy connections creates an opportunity for simpler management for miners and pools alike.
Ultimately, a miner’s profitability is determined by bottom-line growth. Top-line revenues mean nothing if costs exceed them. By reducing costs through the features and mechanisms described above, miners can allocate more time and energy toward what they are designed to do — find new blocks. And with all else held equal, finding new blocks and collecting block rewards is largely a function of higher submission rates.
Submission Rates
Features: empty block mining elimination, native version rolling, job distribution latency
Costs and submission rates have an inverse relationship; they are effectively two sides of the same coin. The benefits gained from cost saving features, such as switching to binary and header-only mining, mean that communication channels between pools and miners are optimized. The result is both higher submissions rates and fewer stale submissions.
V2 enables for higher submission rates and fewer stale submissions through essential features such as eliminating native version rolling, empty block mining, and job distribution latency. As discussed in the “Cost Savings” section above, much of this is made possible or further amplified by features and changes that contribute to reduced bandwidth consumption. These are important upgrades from V1 because they are designed to maximize efficiencies at all levels of the mining pool infrastructure and ecosystem.
Native Version Rolling
Version rolling is used to extend the search space for the miner. Simply put, it is how mining devices allocate specific aspects of their jobs to specific chips within the machine. Version rolling has become an essential part of mining and is widely used, despite the fact that it is inefficient in V1, due in part to it being an extension. Nevertheless, it is an extremely important feature because it allows miners to work at near maximum capacity. Therefore, V2 natively supports version rolling.
Empty Block Elimination and Job Distribution Latency
Jan Čapek describes ASIC miners like race cars, “they have to go full throttle all the time, that’s the most efficient approach how you have to run them. So you have to feed them with the jobs otherwise you’re wasting the energy” [18]. In other words, any time a miner is not hashing and trying to find a new block means that miner is not operating at its full capacity, which means losing potential revenue.
This problem manifests in V1 because the message that the pool uses to send miners contains two pieces of information together. These messages are necessary for new block creation: the hash of the most recent valid block found and the code that contains information about transactions that should be included in the current block being mined (i.e, the Merkle root for the transaction set). Sending these messages together results in data transfer that is not only slower but also unnecessary because it means pools sending miners empty blocks. V2 separates these two messages. This makes it possible for miners to work on future blocks before the previous block is propagated to the network.
Allowing miners to work on future blocks offers potential huge upsides in efficiency gains and, in turn, block rewards. At a fundamental level, it positions each party in the miner-pool relationship to focus on their strengths. In other words, reducing job distribution latency by separating the previous block’s hash from the next block’s transaction set’s Merkle root means miners’ ability to find the next block increases through optimized hash power and pools’ can focus on efficient job distribution.
Security
Features: man-in-the-middle attack prevention
Man-in-the-Middle Attack Prevention
V1 lacks important security mechanisms, such as sufficient encryption, that leaves miners and pool operators susceptible to malicious attacks. One such attack known as a man-in-the-middle (MITM) attack is of central concern because, if successfully executed, miners are vulnerable to malicious parties stealing their hashrate and/or eavesdropping. The latter vulnerability is especially concerning in jurisdictions such as Venezuela, where miners rights to privacy are not protected by their governments [19]. To this end, improved security is core to the upgrade from V1.
A common and particularly detrimental MITM attack is known as hashrate hijacking. This occurs when an attacker steals a miner’s payouts by intercepting their shares and submitting them to the pool as if they were their own. Skilled, sophisticated attackers often steal a small amount of a miner’s hashrate (e.g., 1–2%) so as to go unnoticed as they silently skim off the top of the miner’s payouts. Attackers can continue to do this unbeknownst to the miner, until the miner either disconnects from the pool or restarts the machine.
Figure 7: Hashrate Hijacking Man-in-the-Middle Attack
Authenticated Encryption with Associated Data (AEAD)
To protect against such attacks, V2 uses sophisticated encryption in order to secure and maintain authentic connection between the miner and the pool. In this encryption scheme, known as authenticated encryption with associated data (AEAD) as well as the optional use of a Noise Protocol Framework [20, 21], the miner is required to initiate the session with the pool using cryptography [11]. This happens prior to and independent of communication channels being opened, which ensures the authenticity and integrity of messages being exchanged.
Such mechanisms are fundamental to V2’s design. They allow data transfers to be encrypted in order security to ensure their integrity and confidentiality. As V2 team member Matt Corallo notes, “the cryptographic authentication can’t be understated. If you’re mining today, how do you know your ISP isn’t silently stealing 1% of your hashpower (hint: you don’t!)” [22].
Miner Autonomy
Features: job selection, zero-time backend switching, different types of jobs on the same connection
Increasing miner’s autonomy is essential to increasing decentralization in mining pools. The more autonomy miners have when it comes to both selecting what types of jobs to work on (e.g., selecting which transaction sets to include in a block) as well as which coins to mine (if the miner is capable of doing so) will be essential to the maturation of the mining industry. Since mining is the backbone of cryptocurrencies, giving miners more power to select how and where they allocate their hash power will fundamentally shift how the broader market looks. Simply put, miners vote with their hash power which, in turn, influences market forces from the ground up.
Stratum V2 has been carefully designed in order to increase miner autonomy without undue expense to the mining pools. V2’s job selection and zero-time backend switching features, within the context of the three communication channels and optional sub-protocols, help to make this possible. Although miners can select their own jobs, it is ultimately up to the pools whether or not these jobs are selected.
Although it is still unclear if work selection is something that miners want, it cannot be overstated that the ability to do so is critical for decentralization. As discussed, centralization is a concern at three general levels of mining, one of which is the pool level. From a pool perspective, a primary concern is that of transaction censorship. Transaction censorship is a scenario in which the mining pool operator deliberately excludes certain mined transactions from a valid block submission. In doing so, they can box users’ transactions out of the network. On a mass scale, for example if multiple pools colluded and gained the majority of the network’s total hash power, the network could become susceptible to a 51% attack. Such a scenario remains an unlikely proposition, however, the simple notion of mining pool centralization seems to go against the very principles upon which bitcoin was established.
Job Selection
As discussed, a key criticism of V1 is that pooled miners are not able to select their own work, which leaves the network susceptible to attacks such as transaction censorship. This is a problem that has been discussed in the mining pool community for years, particularly with concerns around transaction censorship. This concern is finally addressed in V2.
V2 includes a censorship resistant mechanism that allows miners to select their own work. In other words, they can choose which transaction sets to include in a block. The mechanism that V2 employs for job selection is the optional implementation of its three sub-protocols (Job Negotiation Protocol, Job Distribution Protocol, and Template Distribution Protocol) that relate to block template creation and work distribution. Allowing downstream nodes (i.e., miners) to choose their own jobs effectively shifts the power back to the miners from the pool, where centralization is more feasible with V1.
It is key to highlight that this aspect of V2 is optional for pools and miners. Pools can implement these protocols on servers separate from the main protocol, enabling miners to connect to them and select their own work (e.g., block templates, transaction sets). As the sub-protocol name implies, job selection is truly a negotiation between the miner and the pool. The pool always reserves the right, for whatever reason, to reject any work proposed by the miner. Such a design gives miners more autonomy while also protecting the pool from work, such as block template submissions, that is undesirable for whatever reason.
V2’s upgrade that allows miners to select their own jobs speaks to its design goals of decentralization, security, and flexibility. The decentralization benefit is clear because allowing miners to select their own transaction sets moves power from the pool back to the miners. From an overall bitcoin network perspective, this is a long-term security benefit as it is a mechanism to increase censorship resistance. Finally, since the feature lives in the three sub-protocols, it is also a testament to the protocol’s flexibility. In other words, pools do not need to implement the job selection feature and, even if they do, miners do not need to subscribe to it.
Zero-time Backend Switching
With zero-time backend switching, a single proxy can change the upstream servers they are connected to and/or allocate jobs from different pools to miners downstream without sacrificing efficiency (e.g., latency). This feature is made possible by the multiplexing feature discussed in the “Cost Savings” section above. So, while multiplexing and zero-time backend switching are related functions of the same feature, below discusses the latter in terms of revenue earnings while above discussed the former in terms of cost savings.
In V1, zero-time backend switching is available, however, it is not always possible and can be inefficient. This is because zero-time backend switching functionality in V1 is part of a non-standard extension that needs to be supported in the actual mining firmware. To address this inefficiency, the zero-time backend switching feature is native to the V2 protocol.
By making this feature native to the protocol, miners (and mining farms especially) stand to benefit from being able to efficiently receive jobs from multiple upstream servers at the same time. For mining operations with the infrastructure and technical know-how to implement zero-time backend switching, more complex mining strategies can be employed. This feature is quite impressive because it enables miners not only to connect to multiple pools but also to potentially mine multiple coins simultaneously. For example, mining devices that are part of the same physical infrastructure set up would be able to efficiently switch between Bitcoin and Bitcoin Cash [11].
The Current State of Development & Adoption
As of November 2020, the Stratum V2 specification document is still a work in progress [11]. Important bridges to overcome before completing a fully deployable version at scale include a critical mass of diverse feedback from the community, especially about bugs and advanced use cases, as well as an easy to use sample pool in which developers can run various simulations, further contributing to feedback [23]. Such is the life of open-source development. However, despite not being fully deployed at scale, V2 can and is being implemented.
According to Braiins’ website, “we estimate that it will take at least 3–5 months to address any possible issues before it’s ready for deployment at scale. As for the implementation, it’s fairly straightforward. Farms can use a V1 to V2 translation proxy on site and pools may also use V2 to V1 proxies as their first level of adoption before implementing the support directly into stratum” [10]. One such implementation is in Braiins OS, the company’s open-source mining firmware, which is discussed in more detail in the “Pools diversifying revenue streams through product offerings” section below.
To this end, one barrier to adoption on a large scale is that manufacturers are not yet implementing V2 at the firmware level. This adds a layer of complexity to the adoption equation because it means that pools would need to implement the protocol in a way that communicates with mining clients. To date, it is not clear what the operational costs would be for pools.
Similarly, it is unclear if hashers/miners are actually interested in V2’s core features. This is highlighted by the Cambridge Center for Alternative Finance (CCAF) with response data from a survey to hashers and pool operators about their plans on implementing Stratum V2:
Figure 8: Stratum V2 Implementation Status
As CCAF explains, “For this approach to take off, alternatives to the original stratum protocol must be widely supported and implemented by hashers and pools. From our survey data, a large majority of surveyed pools and hashers report being undecided regarding the implementation of Stratum v2. A fourth have reported planning to implement stratum v2, but they have yet to follow through” [4, pg.31].
Features such as work selection and job selection are exciting because they introduce a new element of miner autonomy that mitigates trends toward pool centralization. While this is excellent in theory (and in reality when considering the long-term health of bitcoin), it will not be adopted if miners are not interested. As Pavel Moravec explains, “what would really help is a push from miners for work selection, job selection, because then you have to implement the whole stack” [23].
Ultimately, pools will only respond to the needs of their customers. If miners do not see V2 as a way to get higher and/or more frequent payouts, they will have little incentive to switch to pools with V2 implemented.
Finally, as is the case with most open-source projects, mass adoption is an iterative process that involves updates based on community feedback. This feedback should come from hashers at all levels, from the small to industrial scale, as well as a diverse set of pool operators. Edge use cases always exist and no protocol can address all of them. However, the more bitcoin mining pool community members adopt the V2, the more the protocol can address the community’s needs.
So, while the jury is still out on what V2 has in store for the bitcoin mining community, the future still looks promising. V2’s implicit extensibility and flexibility make it highly adaptable, which is exciting.
PART 3 — Looking Forward: Opportunities and Stratum V2 Widespread Adoption
According to Matt Corallo, a widespread mining protocol change is inevitable in bitcoin. When asked about V2’s widespread adoption and implementation he says,
“If it takes 10 years for mining to roll over and use new protocols, then that’s what it takes. But it will happen eventually” [23].
The good news for V2, though, is that no meaningful alternatives exist. Given the complexity of problems it is trying to solve paired with the expertise that went into its design and creation over 7+ years, it does not look like such an alternative will come about anytime soon [23].
Corallo’s opinion on such a matter is one that is well-founded and should not be ignored. Yet, the fact that even an authority on the subject cites a new protocol adoption is potentially a decade out (a timeframe that is almost as old as bitcoin itself), gives a glimpse into just how much uncertainty there is, even within the mining community. This point is further magnified by the uncertainty hashers and pool operators express in implementing V2, as described in the preceding What is the current state of development and adoption like? section.
Present day uncertainty, however, should not be conflated with inevitability. So, operating under the assumption that V2’s adoption will ultimately become widespread and, perhaps, even an industry standard, the discussion below considers what this future may look like. It begins with discussing scenarios and opportunities that relate to mining pools specifically, then closes with a few thoughts from a more general mining perspective.
A Pool Perspective
Pools’ core business model revolves around services. Hashers decide to partner with pool operators as a strategy for better cash flow management that enables the miners to do that which they are designed to do: mine new blocks. Hashers and pool operators have expertise that is fundamentally different so, in this regard, their relationship to one another makes a partnership that is mutually beneficial. In his interview with Jimmy Song, Matt Corallo nicely summarizes complementary aspects of the hasher/pool operator relationship:
From a financial perspective, mining pools are fundamentally a cash flow management service for hashers. Secondary services that pools provide relate to optimizing operational overhead. In other words, pools assume responsibility for work that doesn’t directly relate to collecting block rewards, yet is still necessary in order to mine valid blocks. For example, pools optimize functions such as block creation and propagation on behalf of the miners which, in turns, enables miners to focus on their strengths: finding cheap power and mining new blocks.” [23]
Therefore, it stands to reason that the roles the respective players assume in the current mining environment will evolve based on present day strengths. Stratum V2 helps to magnify these strengths through the way in which its design is optimized for efficiency and cost savings. To this end, V2’s flexibility and extensibility creates a framework in which pool operators can respond to the service needs of hashers. Moreover, pools will increasingly be able to build off of this expertise and expand their service offerings into new markets.
At the same time, the same time, pools have an opportunity to develop new strengths and competencies. The development and creation of new service lines, both within and outside of the mining industry, can give way to innovative product offerings. Stratum V2 amplifies this potential as it presents an alternative to the existing standards.
The scenarios discussed below describe possibilities for the evolution and expansion of pools’ offerings both within and outside of the mining industry. Of course, this list is by no means exhaustive.
Pools Becoming One-Stop-Shop for Miners
The idea of mining pools becoming one-stop-service providers is not a new idea. As discussed above, pools have been in the service business since their inception so a logical extension of what they can, should, and do offer is based on what they know best. V2, due to its flexibility, however, introduces possibilities for pools to further extend their service offerings. In an age where cryptocurrency is increasingly in popularity and further permeating the mainstream, not only do we see an increase in competition in the mining space, we also see increased government scrutiny and regulatory requirements hashers need to comply with. These dynamics present unique challenges to both front and back office mining operations, challenges that pools are well-positioned to provide solutions for.
Zero-time Backend Switching Analytic Services
One of V2’s most innovative features is zero-time backend switching, which it natively supports. Zero-time backend switching enables miners to connect to multiple pools or mine multiple coins simultaneously, and to switch between them instantly [10]. From a financial perspective, this offers a number of exciting opportunities and incentives.
Pools that can offer zero-time backend switching for multiple coins, such as Bitcoin and Bitcoin Cash, without sacrificing efficiency are appealing to miners because they can dynamically switch between different coins. It is easy to see a scenario in which pools dynamically allocate miners’ hashpower between different coins in order to generate the largest revenues. Such zero-time analytics services would be extremely complicated given miner limitations as well as the dynamism and complexity of these markets, however, they are certainly possible. As V2 team member Pavel Moravec notes, “we started designing the protocol with other PoW algorithms in mind. We wanted to make it generic over specifics of the algorithms. But it was just too much work to do at once” [22].
As noted, the other side of zero-time backend switching is that it allows miners to connect to and switch between multiple pools. Obviously, pools want miners to allocate hashpower to their pools and not a competitor’s. At present, it is not totally clear how pool operators will be able to meet such a challenge. But those who do and whose services strengthen their unique value propositions stand to benefit greatly.
Advanced Hedging Strategy Services
In the aforementioned 3rd Global Cryptoasset Benchmarking Study, CCAF survey response data, “shows that miners’ hedging strategies remain relatively elementary” [4, pg.34]. The use of more complex financial products to hedge financial risk, products such as collateralization and derivative vehicles, are limited to the minority:
Figure 9: Hedging Strategies Employed by Mining Operations
In many ways, this situation makes sense. Mining operations specialize in finding relatively cheap energy and efficiently mining new blocks. They are not in the business of high level finance. Given the high upfront costs paired with slim margins, many operations are unable to afford financial management experts to consult on more advanced hedging strategies. Moreover, the opportunity cost of developing complex financial risk management strategies in-house is high due to the already tight margins under which mining operations operate.
Pools, on the other hand, inherently understand more complex hedging strategies as a general manner of speaking. After all, pool’s core business model is offering cash flow management services. They understand pricing and payout models that optimize for returns. Depending on the pool’s size, they also have glimpses into the various types of mining operations and their unique needs. For these reasons and more, pools have an informed and diverse perspective that positions them to develop advanced services for financial risk management.
V2 will help them to build out such offerings because pools have insight into which features their customers utilize most. One can envision a future in which pools offer hedging services to mining operations based on insight gleaned from information that moves across the protocol. For example, offering financial consulting services geared toward mining farm operators who are interested in hedging risk with more complex financial products such as transaction fee futures, coin swap options, and even protocol traffic trends.
Clearly, a discussion of such scenarios can quickly become esoteric and theoretical. However, an outsider looking in on the world of high finance could say the same things about the products and services offered. Nevertheless, individuals and companies make billions of dollars off of such products and services. Considered from this angle, it is not unrealistic to think that similar strategies could be offered to mining operations, especially as financial professionals like hedge fund managers and quants start paying more attention to mining.
Back Office Services
Back office functions are almost always a cost basis within an organization. Such functions include administration, record maintenance, accounting, and regulatory compliance [24]. They are a necessary cost of doing business. And, like financial risk management, they are not core to a mining operation’s core business model. That is why many investment firms, for example, especially medium- to large-sized ones, outsource back office functions to third parties.
Regulators are paying more attention to the cryptocurrency world every day. This oversight and scrutiny is exacerbated by rampant cases of fraud and corruption. As such, more regulatory requirements are coming out that aim to promote transparency. Such requirements mean added overhead on top of standard back office requirements such as tax reporting. This trend offers an opportunity for pool operators to expand their service offerings to encompass back office functions.
For example, pools could either partner with or develop in-house tax and accounting services for pools. From a service perspective, offers economies and efficiencies of scale. Since pools have access to a wide range of mining operations, pools might be able to negotiate discounted wholesale pricing for tax services. In terms of efficiencies, pools offer tax service providers a batch of relatively similar clients, all of whom the pool has tax-relevant information on (of course, encrypted and private).
In this respect, pools can leverage the flexibility of V2 and implement it in such a way that it efficiently captures data that is required for tax reporting. This type of add-on service could also package information needed for other transparency requirements, such as SOC reporting, regulatory reporting, and even certifications.
Product Offerings to Diversify Revenue Streams
Although pools’ bread and butter lies in services, they stand to benefit from diversifying revenue streams and supplementing their services with a suite of products that complement their overall value proposition. Pools can draw from other businesses with software, analytics, and data products in order to find niches that will help to differentiate them from their competitors.
A natural place for pool operators to start building out products is a full-stack software solution for miners. This means building firmware, mining clients, proxies, and even entire operating systems. Such a move plays on a larger trend we’re seeing across the mining industry, one that is closely associated with centralization: a move toward vertical integration. However, although it may look like this on the surface, it does not necessarily imply centralization. Rather, it is a play that aims to reduce both qualitative and quantitative overhead costs for miners.
Braiins, the company behind Stratum V2 and Slush Pool, is already making great strides in providing full-stack solutions to mining operations. Their open-source BraiinsOS mining firmware supports Stratum V2, unlike manufacturer’s firmware. Similarly, their BOSminer aims to replace the clunky yet commonly used CGminer software, which has become a bottleneck for future development [23]. With this combination (as well as their advanced BraiinsOS+), they aim to support the Stratum V2 implementation for miners without the need to download extraneous software in order to connect to a pool and mine.
Figure 10: Braains’ Full-Stack Mining Solution
If Braiins’ model proves to be successful and adopted by more miners, it will push manufacturers to build firmware that supports V2, which will be a huge step in the direction of the protocol becoming an industry standard.
Pools Expanding Offerings Outside of Traditional Mining Industry
Mining is perhaps the most opaque realm within the crypto world, especially to outsiders. Aside from perhaps a small minority of cryptography, computer networking, and/or technology enthusiasts, most of the people involved with crypto do not understand how it works even from a semi-technical. This is not a criticism and also not a new phenomenon. For example, people use computers, the internet, and the global financial system every day without understanding the technical intricacies involved. There are similarities with crypto and mining. Despite mining being the security mechanism in the network and the process through which new coins are created, people do not need to understand how mining works (or, for that matter, even know it exists) in order to buy, sell, and trade crypto.
That said, people’s awareness around mining tends to grow proportionately to their interest and involvement in crypto. Said differently, the more people’s understanding of the wider crypto ecosystem develops, the more people seek to understand what mining is and the crucial role that it plays. While such an understanding may not be necessary for individual hobbyists buying, selling, or trading small amounts of crypto, it is requisite at the institutional level, such as investment firms and governments.
To that end, expanded service offerings from pools will not be limited to their direct customers within the mining industry. As mentioned, pools’ position within the mining industry affords them a unique perspective on complex market dynamics, which informs a certain type of expertise. This expertise and industry knowledge is relevant to companies and organizations outside of mining and will likely be sought after. For example, shrewd investors and skeptical regulators alike will benefit from gaining an in-depth understanding of how the mining industry operates. In theory, these organizations could build a sufficient understanding based on internal research, knowledge, and activities. However, nothing beats knowledge and expertise gained from working within an industry — an expertise that pools possess. Such pool side expertise offered as a service will become increasingly important as new entrants come into the scene, despite different motivations.
Due Diligence & Analytics Services for Institutional Investors
Investment opportunities abound, the crypto ecosystem offers endless investment opportunities at all levels — from chip manufacturing to simple asset trading to complex blockchain solutions. These opportunities exist and are sought after at both the individual and institutional level. However, the types of investments and due diligence required before pursuing them typically changes relative to the scale of the opportunity. Accordingly, so too does the need to paint a fuller picture of the factors that influence returns (hint: mining).
For example, at the individual level most investment happens in the coins themselves. Vast majority of these types of investors get into the space via on-ramps with large scale exchanges. On these exchanges, such as Coinbase or Binance, individuals can find alpha without ever understanding how a given coin works from a mining perspective. Though it is likely not the case in reality, one could even argue that this type of investment via exchanges at the institutional level (e.g., MicroStrategy adopting bitcoin as their primary reserve asset) does not require a thorough grasp of how the mining market that underpins the coin works [25]. But as investment vehicles offered to these investors get more complex, so too does the investors’ need for more information in order to better calculate their risk/reward ratio.
We are already seeing this take shape in the market. For example, in May 2020, bitcoin mining company Bitfury announced the launch of a new program aimed toward investment firms and high net worth individuals seeking to gain exposure to bitcoin in their portfolio via investing in Bitfury’s mining farms. As the company’s CEO Valery Vavilov stated:
“bitcoin’s legitimacy as an investment vehicle is absolutely growing. Digital assets like bitcoin are becoming more attractive to high net worth investors because of their long-term use and store of value.” [26].
The fact that this is occurring at the institutional level is a signal of what is to come and the opportunity it presents mining pool operators. An investment vehicle of this sort is created for accredited investors, as opposed to the general public, because they understand the inherent risk in such types of investments. These types of investment decisions are not made on a whim, they are backed by detailed analysis and are considered over long-term time horizons.
This presents a need for exhaustive due diligence, which is critical to any investment. Carrying out due diligence is often a challenge for investment firms due to lack of familiarity with the space in which they are investing. In other words, not being able to effectively separate the hacks from the home run. This holds especially true in the mining industry for a number of reasons. For one, the prevalent obfuscation in the industry makes such due diligence a formidable challenge due to for example, a lack of transparency and reporting standards, back door deals, and rampant mining pool exploits [27]. A lack of formal standards and murkiness in the mining industry, however, does not preclude quality due diligence.
Pools can help investors surmount this due diligence challenge in a similar way that companies hire external mergers & acquisitions (M&A) firms to help them shop around for a company to purchase, conducting the necessary due diligence along the way. The emergence of these specialized types of services is inevitable as more institutional money flows into the space. We will likely more of these types of services pop up outside of pools. However, pools offering them is a natural outgrowth of their core business model. They have an opportunity to develop new branches and service offerings to meet this market demand, especially for investors coming in at the mining level.
If V2 is adopted as an industry standard, pools that are experts in it have a deep understanding of the protocol used on the ground floor by machines and code to create new bitcoin. Often, they are also experts in Bitcoin Core. Paired with analytics capabilities, pools can draw upon this knowledge to offer their services to institutional investors for extremely detailed and nuanced due diligence. Use cases and scenarios can be built from the ground up, based on quantitative data and qualitative experience. This provides a tremendous synergistic combination of expertise — that of investment and industry — that opens the door for a greater number of alpha seeking opportunities.
Alternative Data Products for Investors
Part and parcel to the investment process, from opportunity research to due diligence and everything in between, is data. High-quality data from high-quality sources yields high-quality analysis and, in turn, well-informed investment decisions. “Data is the new oil,” has become an adage in today’s age of information and hyper-connectivity that has been made possible by not only an explosion in data generation, but also in business’ ability to capture, store, and analyze it at lower costs relative to even a few years ago. Data is so ubiquitous in global commerce that entire businesses and industries are built around it.
One such industry is that of alternative data. In finance, alternative data refers to, “data used to obtain insights into the investment process…used by…institutional investment professionals” [28]. Alternative datasets generally are large and complex with vast amounts of information captured by non-traditional investment sources. Examples include data from credit card companies, motion sensors, satellite images, mobile devices, and much more. Given the size and unstructured nature of these datasets, it is challenging for non-specialists to access them let alone to work with them in a meaningful way. However, those investors that have proper access and capabilities can gain information advantages over competitors.
Millions of data points are created everyday by companies whose businesses have little to do with the buying or selling of data. Nevertheless, this “exhaust data” (another name for alternative data), can be extremely valuable to customers who know what to do with it. However, many companies do not realize the untapped value they are sitting on. Mining companies generally, and mining pools specially, can easily fit into this category. Mining pools, after all, are are traditionally cash flow management service businesses for hashers and their mining operations.
Viewed through the lens of alternative data, Stratum V2 presents a new set of product possibilities for pool operators. Pools process incomprehensible amounts of data and mind-boggling rates. By packaging and selling datasets with data generated from pool activity, pool operators create an extremely valuable product for investors interested in getting into the mining space. Of course, this is not to suggest that such possibilities were not available before V2. However, the improved features and functionalities in V2 open new doors.
One example of this that presents exciting opportunities is miners’ ability to select their own work. Assuming V2 becomes widely adopted due to miner demand for the option to select their own work, pools will begin to capture all sorts of new and interesting information from which coins are being mined how often and when to the types of work miners are selecting to the frequency at which the switch between pools. This only begins to scratch the surface.
Of course, it is imperative to note that the capturing, packing, and selling of any data generated from miners should only be done with hashers consent. In line with the very ethos of crypto, privacy is extremely important and pool operators must be transparent with aspects of their operation that stand to make profit off of miner data.
Assuming such transparency, though, it is not unrealistic to envision pools developing more complex payout schemes that involve funds from external investment shops. This type of development in the industry would introduce new partnership opportunities and value propositions to attract miners.
Products & Services for Governmental Agencies
Many in the crypto space vehemently oppose any type of government oversight, regulation, or meddling. Their arguments are sound and reasons for resisting are, in many respects, admirable. After all, this sentiment reflects many of the principles upon which bitcoin was founded.
Such sentiment does not deter the regulatory realities in which the mining industry lives. The diverging relationship between bitcoin’s globality and borderlessness in contrast to regulation’s locality as determined by nation states makes defining, implementing, upholding, and adapting a regulatory regime elusive at best. This is only compounded by the fact that the global economy has never seen the likes of bitcoin prior to 2009. In this respect, effective regulation is analogous to learning how to fix and fly an airplane at the same time.
Therefore, it is no surprise that players in the mining industry share a similar ambiguity toward regulation. The degree to which miners are aware of and/or concerned about the regulatory environment and evolving landscape is hard to summarize. Not only are regulations opaque, inconsistent, and/or divergent, so too are miners’ attitudes toward them. As CCAF indicates,
“miners from the same region greatly diverge in their opinion on their immediate regulatory environment. This heterogeneity in opinion suggests either that miners have limited awareness of existing regulation, or that regulation is confusing and inconsistent” [4, pg.25].
However, the fact of the matter is that governments are not going away and they will continue to push for regulation in all aspects of the cryptocurrency industry, mining included. A quick look at the United States Library of Congress’ “Regulation of Cryptocurrency Around the World” web page illustrates this [29].
Mining — with the critical role it plays in the crypto ecosystem, its energy-intensive practices, trends toward vertical integration, and associated fears of monopoly — is a prime candidate for regulatory oversight. Governmental scrutiny will only continue to grow and, to draw a stark contrast, those in the mining industry will be faced with a choice: resist or play nice. Those who choose to play nice stand to gain not only partners in government but also profit through providing products and services.
This type of mutually beneficial relationship between government agencies and companies in the crypto and blockchain space already exists. For example, blockchain analysis company Chainalysis provides products and services to businesses and government agencies alike [30]. The tools and services they provide to government agencies help the agencies to fight illicit activity from criminal organizations using cryptocurrencies. Chainalysis is considered by many to be the global standard when it comes to blockchain analysis.
In a similar way, pool operators implementing V2 as the industry standard protocol presents them with opportunities to provide services to government agencies that help them to fight crime using data and analytics that isn’t available on and/or is hard to get on the blockchain. Drawing upon many of the same types of products and services discussed above with respect to investment firms, pools have access to specialized information and data from which government agencies stand to gain.
Boutique Pools Emerging to Meet Niche Customer Needs
Mining pools have evolved significantly since Slush Pool mined its first bitcoin block in 2010. The industry pools come and go, innovative payout schemes emerge, and interesting new business models that attract customers. This trend toward innovation and development will not change anytime soon. In fact, as is the case with any emerging industry, it will likely grow exponentially and the shape of the mining ecosystem today is likely to look drastically different in even a few years. Undoubtedly, a widespread adoption of Stratum V2 would be a significant influencing factor in shaping this future.
In addition to the clientele for the products and services described above, pools will see an emergence in new customers as well as a shift in overall customer demographics. These customers will drive pools to innovate in order to separate themselves from competitors. In that respect, the form that pools take on will certainly be a function of the types of customers they support and aim to attract.
New Market Entrants as Barriers to Entry Lower
The geographic centralization of hashpower is a large concern for the future of bitcoin mining, as touched upon earlier. To date, much of this centralization is occurring in Asia and in China specifically.
Big players in the broader crypto industry are already making strides to shift these dynamics. For example, in August 2020, US-based Digital Currency Group (DCP) announced the existence of a subsidiary called Foundry [31]. Backed by a USD $100 million investment, Foundry supports a wide range of projects and companies attempting to shift mining (both bitcoin and other cryptocurrencies) to North America in order to change the global distribution of things such as hashpower and manufacturing [32].
V2 has a role to play in this shift, or redistribution. One area, in particular, is enabling new miners who were previously precluded from entering the market, especially those whose poor internet connection was a barrier to entry.
As Jan Čapek states, V2’s bandwidth efficiency improvements make it so, “you as a miner can operate on a not-so-great connection” [c]. From a global perspective, this means that an entirely new set of individuals and companies around the world can take part in mining. This does not change other barriers to entry, such as prohibitive upfront costs, however, these can potentially be offset by cheaper costs in other areas associated with mining, such as cheap energy and affordable labor.
Figure 11: Geographic Distribution of Hashpower
A global expansion of new miners coming online means a completely new base of prospective customers for pools. Obviously, this presents pools with new challenges, such as operating a wider global infrastructure and navigating regulatory inconsistencies across national borders. Nevertheless, this does not discount the fact that V2 opens up new possibilities for an overall increase in network hashpower, as well as a more even global distribution of it.
Scale-Based Customer Stratification
Although mining is becoming more industrialized and large-scale mining farm operations control a significant amount of hashpower, individual, small- and medium-sized operations will not be shutting down anytime soon. We will likely see a further stratification of customer types based on operational scale. V2’s features such as header-only mining and job selection will drive this stratification.
Pavel Moravec describes,
“V2 is purposefully designed in a way that you can implement only a subset of it. The easiest part is header-only mining, which is even easier then the current V1 I think. Then, you don’t have to support/implement job negotiation at all and still use all other advantages of V2” [22].
This flexibility can be adapted to meet miner demand and operational needs at various scales.
For example, individual and/or small-scale miners that cannot support their own full nodes with a copy of the bitcoin blockchain will be incentivized to choose their own work. Instead, they will adhere to a more traditional model where the pool sends them work via V2’s standard channels and header-only mining. Referencing the preceding section, it would not be surprising if pools see more of these types of operations pop up in geographic areas with poorer internet connection.
Alternatively, larger-scale operations, such as industrial-size mining farms will be incentivized to run their own full nodes and choose their own work. This, paired with V2’s flexibility, creates more advanced use cases for pools to respond to and accommodate. In terms of opportunities for pool operators, these use cases could go beyond that actual implementation of the protocol and be extended to other services catered for large-scale operations, such as tax services and financial risk management.
This type of stratification will push pool operators to rethink existing business models and adapt accordingly. Such an adaption could easily manifest in pools for the masses, so to speak, as well as boutique shops that cater to a highly specific and specialized customer use case.
A Wider Mining Perspective
As is illustrated in the “A Pool Perspective” section above, the future of mining pools is highly variable. It will be influenced by macro and micro trends as well as shifts both within and outside of the mining industry as it exists today. Increasing awareness of cryptocurrency and application of blockchain solutions contribute to an exponential growth in the space as well as an appetite to understand how its components work. Mining has long been at the bottom of the list of things to understand but this is changing.
In a similar way to how the mystique of blockchain is gradually dissipating as questions related to it shift from what is it to how can we apply it to this specific use case, so too will we see a similar shift in mining. Larger players are getting into the mining space and governments are paying more attention to it. This means new perspectives, specializations, opportunities, and demands. With this, the industry is taking a more critical look at itself and considering its future.
The introduction of Stratum V2 and the wider goals it strives toward are important for the long-term health of the bitcoin network and beyond. This importance is being recognized outside of the relatively small group of developers and pool operators. For example, in May 2020, Square Crypto announced a grant calling for Stratum V2’s further development:
Figure 12: Square Crypto Tweet about Stratum V2 Development
While important, Stratum V2 is but a small cog in the wider bitcoin mining machine. V2 can help to push forward things like decentralization and transparency. However, it is unlikely that V2 will be the driver. Much remains open-ended and subject to market demands.
When it comes to the centralization vs. decentralization debate, there is no definitive answer as to whether or not decentralization in all aspects of mining is the best way forward. V2 aims to promote decentralization at the pool level so the market can then focus on the centralization of hardware production and geographic location of hash power. By most accounts this is considered to be a good thing. Still, it is important to ask what stands to be lost and gained.
The conversation around security illuminates this type of challenging question. Particularly, security as it relates to trust, efficiency, and innovation. One of bitcoin’s greatest achievements is the way in which it achieves security without the need to trust a third party. The rules of the bitcoin game, so to speak, make it so that potential adversaries are incentivized to follow them. In fact, the more that players follow the rules, the more secure the system is, which gives users more trust in it.
Bitcoin is code. Code is neat, predictable, and logical. The world and markets in which bitcoin has come to find itself, however, do not possess these same traits. Bitcoin has given rise markets, such as mining, that deal in physical goods that are created and controlled by people.
Through this lens, magnified by the fact that mining is moving toward an industrial scale, we can ask questions such as: how realistic is decentralization, say, at the hardware level? How would this be achieved? At what cost to trust, security, efficiency, and innovation? At what cost to the environment?
These are important questions to consider from a philosophical, yes. But they are also important questions to consider from a dollars and cents perspective. Hundreds of millions of dollars has been invested into mining and those with a vested interest want to see returns. Similarly, mining pools have risen to collectively control the majority of hashpower on the bitcoin network, making them large targets for hackers. How would decentralization affect returns? In what ways will the players who control the supply chain (e.g., at a chip level) respond if the market pushes for more decentralization? What role will government regulation play?
Even though there are no correct answers to these questions, it is important for the market to ask them because, as time will tell, answers will take shape. If we neglect to stay vigilant today, things may not shape up in our favor.
CONCLUSION
This piece discussed a new protocol for bitcoin mining called Stratum V2. V2 aims to improve upon its predecessor in terms of efficiency, security, and decentralization, as well as flexibility, especially in terms of pooled mining. However, should it find widespread adoption in the years to come, V2 has the potential to become the industry standard for bitcoin mining.
The new protocol’s key updates offer benefits in multiple areas for hashers and pool operators alike. These benefits include: a) cost savings associated with efficiency gains such as reduced bandwidth and lower CPU load; b) higher submission rates made possible by lower latency and elimination of unnecessary messages; c) stronger security mechanisms to protect against man-in-the-middle attacks such as hashrate hijacking and eavesdropping, and; d) increased miner autonomy that allows them to select their own work, mine different types of coins, and/or switch between pools on a single connection.
V2 is still a work in progress and is not ready for large-scale deployment. However, a handful of mining pools have begun adopting and implementing it on a small-scale. In order to see greater adoption, V2 must be supported at the miner manufacturer firmware level and also receive more feedback from the wider community so that the protocol can handle more advanced and nuanced use cases. Yet, the most important barrier V2 needs to cross is finding widespread demand from hashers/miners. Ultimately, pool operators will not be incentivized to implement the protocol hashers are not interested in selecting their own work.
Should V2 become widely adopted, pool operators will find new business opportunities and new clients. Notably, V2 can further enable pools to become a one-stop-shop provider for their existing client base. In terms of services, this could include advanced analytics, financial risk management, and even tax and accounting services. Pools will also be able to build out new product offerings to their customers, such as creating full-stack mining solutions.
Opportunities will also emerge outside of the existing customer base to cater toward new market entrants who have not traditionally been involved with mining. This may include services such as due diligence for investors interested in exposure to bitcoin mining in their portfolio, products such as highly specialized alternative data sets for interested investors, as well as products and services geared toward government agencies.
While such scenarios are speculative, they do give a glimpse into the future of bitcoin mining. This future, while exciting, is still highly variable and subject to myriad factors and influences both within and outside of the current mining ecosystem. These dynamics will play out at all levels of mining — from chip manufacturing to miner manufacturing, along with the associated supply chains; from global hashrate distribution to mining pool operations and models. The ways in which these dynamics play out and ultimately take form will be up to the market as it grapples with questions around security, trust, efficiency, innovation, and decentralization.
The emergence of the Stratum V2 protocol represents a response to such questions and the challenges that face players in the mining industry today. Though V2 is but a small aspect in a much wider ecosystem, it is one that is important and worth paying attention to. After all, the way in which it takes shape and is or is not adopted could very well be a crucial signal of where bitcoin mining is going.
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