Introduction
Ethereum is a programmable blockchain network that lets developers build and run applications with smart contracts. Its native cryptocurrency is ether, commonly abbreviated ETH.
Unlike a blockchain designed mainly to transfer a digital monetary asset, Ethereum also acts as a shared computing platform. For example, developers can create tokens, financial applications, games, marketplaces, and other blockchain-based services on the network.
As a result, Ethereum has different sources of demand and different risks than Bitcoin.
How Ethereum works
Ethereum uses a shared blockchain to record transactions and keep track of applications running on the network. Participants can transfer ETH, interact with smart contracts, and use tokens created through Ethereum.
Every action uses network resources. Therefore, users pay transaction fees, often called gas fees, when they send transactions or interact with applications.
Ethereum has also changed significantly since its launch. Most notably, the network moved from proof of work to proof of stake in 2022. In addition, developers can continue to update the protocol through future upgrades.
What is ether?
Ether is the native asset of the Ethereum network. Users pay transaction fees with ETH and can also commit it to Ethereum’s proof-of-stake system.
Because of these uses, demand for ETH is connected to activity on Ethereum. However, owning ether does not mean owning part of the Ethereum network in the same way that a shareholder owns part of a company.
Several factors can influence the market value of ETH. These include network use, investor demand, staking, changes in supply, competition, financial conditions, and expectations about future adoption.
What are smart contracts?
A smart contract is a program on a blockchain that follows a set of coded instructions. Once it is active, users can interact with the program through blockchain transactions.
Smart contracts let developers create applications without using one central database to record every action. For example, they can support token exchanges, lending services, digital collectibles, voting systems, and many other functions.
However, smart contracts can contain bugs or design flaws. Blockchain transactions can also be difficult to reverse. Therefore, software errors and attacks can lead to significant losses.
Ethereum and proof of stake
Ethereum uses proof of stake to keep the network in agreement and help secure it. Validators commit ETH to the protocol and may then help propose or confirm blocks.
Validators who follow the rules can earn rewards. On the other hand, the protocol can penalize certain types of harmful or incorrect behavior. As a result, staking can offer potential rewards while also creating additional risks.
Investors should therefore separate simply holding ETH from taking part in staking. Depending on the method, staking can involve validator, intermediary, smart-contract, liquidity, access, and tax considerations.
What drives the price of ether?
Network activity
More demand for transactions and applications can increase demand for block space. In turn, users need ETH to pay network fees.
Developer and user adoption
A larger ecosystem of useful applications may support network activity. However, greater adoption does not guarantee higher ETH prices.
Supply and staking
New issuance, fee burning, and the amount of ETH used for staking can affect available supply. Therefore, these factors can also influence market conditions.
Competition and market conditions
Ethereum competes with other blockchain networks for users and developers. In addition, regulation, interest rates, risk appetite, and wider crypto sentiment can influence demand for ETH.
Ethereum versus Bitcoin
| Characteristic | Ethereum | Bitcoin |
|---|---|---|
| Primary design | Programmable blockchain platform | Decentralized digital monetary network |
| Native asset | Ether (ETH) | Bitcoin (BTC) |
| Consensus | Proof of stake | Proof of work |
| Smart-contract role | Core part of the ecosystem | More limited programmability |
| Maximum supply | No fixed maximum comparable with Bitcoin’s 21 million cap | 21 million BTC under current protocol rules |
Neither network is simply a newer version of the other. Instead, Bitcoin and Ethereum make different design choices and serve different uses within the cryptocurrency market.
How investors gain Ethereum exposure
One option is to buy ETH through a cryptocurrency trading platform. Investors can then leave it with a custodian or transfer it to a crypto wallet. Self-custody gives users direct control over their keys, but it also gives them more responsibility.
Alternatively, some markets offer financial products that provide Ethereum-related exposure through traditional brokerage accounts. These products can make access simpler. However, they also have their own fees, custody arrangements, and structural risks.
Investors can also gain indirect exposure through companies involved in blockchain infrastructure. Still, company shares are not a substitute for ETH because business results and stock-market conditions also affect their returns.
Risks of investing in Ethereum
ETH can be highly volatile. In addition, Ethereum faces competition from other blockchain platforms, changing regulation, software bugs, and uncertainty about future network demand.
The wider Ethereum ecosystem adds more risks. For instance, applications can fail, attackers can exploit smart contracts, tokens can lose value, and hackers can target bridges or other infrastructure.
Finally, custody matters. Direct holders need to protect their keys, while custodial services create counterparty risk. See risks of cryptocurrency investing for a broader discussion.
Key takeaways
- Ethereum is a programmable blockchain network, while ether is its native cryptocurrency.
- Smart contracts let developers create blockchain-based applications and tokens.
- Ethereum uses proof of stake rather than Bitcoin’s proof-of-work system.
- Users pay transaction fees with ETH and can also use it for staking.
- Network activity, adoption, supply, competition, and market sentiment can influence ETH prices.
- Technology, smart-contract, custody, regulatory, and volatility risks remain significant.