What is Chainlink and is it a good investment?

Chainlink is a decentralised network of nodes that provides real-world information from off-blockchain to on-blockchain sources via oracles to write smart contracts and deploy dApps. Chainlink is built on Ethereum and supported by its own native token, LINK.

To fully understand the value and benefits of Chainlink and how it functions, you need to understand the fundamentals and interconnected concepts.

So, let’s start by breaking down what Chainlink is in simple terms.

What is a decentralised network?

A decentralised network means activities and processes on the network are conducted away from a central authority or location. This protocol means no one person or group is trusted or relied on for an outcome.

What is a node?

A node is any computer that connects to a cryptocurrency network. Nodes support the network by validating and relaying transactions. There are two types of nodes:

• full nodes enforce all the rules of the network
• lightweight nodes help with ease of use

What is a blockchain?

Blockchain refers to a decentralised record-keeping system (public ledger) that records transactions across many computers and allows the date to be shared among a network of independent parties (nodes).

Blockchain has no central point. All information is stored in many different computers (nodes) at once across the Internet. This makes it virtually impossible for anyone to hack into a single computer to steal or manipulate the data.

There are many types of blockchains but the three main ones are:

• public blockchains such as Bitcoin with a native token BTC
• permissioned blockchains such as Ripple with native token XRP
• private blockchains where membership is closely controlled and it does not use a native token

What is off-blockchain?

Off-chain refers to any type of transaction or mechanism that occurs outside of a blockchain network protocol. Off-chain transactions are popular because they don’t have a transaction fee, settlement is immediate and they offer greater anonymity and security than on-chain transactions.

Off-chain transactions may eventually have to be recorded on-chain which is where Chainlink comes in.

Off-chain transactions are executed a number of ways:

• a transaction agreement between two or more parties
• a guarantor guarantees to honour a transaction; such as payment processors like PayPal
• a coupon-based payment mechanism where participants buy coupons in exchange for crypto-tokens and give the code to another party who can redeem them

What is on-blockchain?

On-chain refers to any type of transaction or mechanism that occurs within a blockchain network protocol. On-chain mechanisms are typically executed automatically using cryptographic and algorithmic computerized code on the blockchain platform.

On-chain is simply any transaction that occurs on the blockchain. It involves the transaction being validated and authenticated by nodes.

The on-chain data is valid when the blockchain is modified and the transaction is reflected on the public ledger. On-chain transactions can only be reversed after the majority of the network’s hashing power comes to an agreement.

What is an oracle?

Oracles are third-party services that provide smart contracts with external information. They act as bridges between blockchains and the outside world. Examples of data relayed by oracles is price information and successful completion of a payment.

Oracles give blockchain networks significantly more power because they are able to exponentially secure, verify and strengthen the validity of data that a blockchain receives and uses for smart contracts and dApps.

One of the main uses of blockchain-based oracles is to provide price and data feeds needed for the trustless execution of smart contracts used by financial mechanisms in the DeFi sector.

What is a smart contract?

Smart contracts are pre-specified formal agreements on the blockchain that evaluate information and automatically execute when certain conditions are met.

Smart contracts are the future of business. They are surging in popularity because they reduce the need for intermediators and arbitrations as well as enforcement costs and fraud losses. Smart contracts also reduce malicious attacks or accidental exposure to criminal activity and fraud.

How a smart contract works is the code that captures the terms of agreement only exists across a distributed, decentralised blockchain network. It’s a self-executing contract were the terms of agreement between a buyer and seller of a business or asset are directly written into lines of code.

Currently, the most popular platform for writing smart contracts is Ethereum. However, a platform like Tezos offers additional benefits through its DPoS consensus and is being recognised as an excellent alternative to Ethereum.

Benefits of a smart contract

Smart contracts are immutable and verifiable because they exist on the blockchain. Immutable means they cannot be changed. Verifiable means they can be seen and verified by everyone.

These two key characteristics of smart contracts guarantees a high level of trust among parties as the digital contracts reflect the stated parameters of the agreement and will be executed when pre-determined parameters are met.

This level of trust eliminates or reduces the need for intermediators and arbitrations as well as enforcement costs and fraud losses.

Example of a smart contract

Crowdfunding is a good example of how smart contracts are used in the real world. If a certain amount of Ether is deposited into a smart contract by a certain date, then payment will be released to the fundraiser. If it is not, the payment is returned to donors.

What is a dApp?

dApps are decentralised apps. Short for application, an app is a piece of software that you can access and use through the Internet, as opposed to software installed on your computer.

The only difference between a dApps and a normal app is dApps are run on a peer-to-peer network such as a blockchain. What this means is decentralised apps doesn’t run on one server but rather on thousands of computers scattered around the world. They are controlled by business automation software and only function if specific parameters are met.

Decentralised means no one person or entity has control of the network. The networks are open-source and operate without any central entity controlling it. Its data and records must be made public and you need a cryptographic token to help keep the network secure.

dApps are made of smart contracts and rely on the peer-to-peer network to ensure they work, even if individual computers or parts of the network go down.

What is a LINK token?

Chainlink is built on Ethereum and supported by its own digital token called LINK. The LINK token lives as a sub-token on the Ethereum blockchain and can be bought or sold for fiat currency or other digital currencies.

LINK is used to incentivise the global network of node operators to provide reliable, real-world data that is needed to write smart contracts and deploy dApps on the blockchain.

There are two ways LINK is used:

• Requesting smart contract holders use LINK to pay Chainlink node operators for their work; prices are set based on demand for the data they can provide and the current market for that data.

• Chainlink node operators use LINK to stake in the network. Node operators must deposit LINK with Chainlink to demonstrate their commitment to the network and to provide a good service.

The Chainlink Reputation Contract considers the size of a node’s stake when matching nodes with requests for data. Nodes with a greater stake are more likely to be chosen to fulfill requests and in turn, earn LINK tokens for their services.

The Chainlink network also punishes nodes that deliver a faulty, poor or dishonest service by taking their stake of LINK.

What problem does Chainlink solve?

Chainlink solves the problem of connecting external information sources to blockchain smart contracts in a language that both mechanism can understand. This has always been one of the main limitations in how widely smart contracts can be used.

For smart contracts to work, they require off-chain data in an on-chain format. It’s like trying to speak English to a space creature who talks Alienese.

To bridge the language gap, you need oracles.

An oracle is software – middleware – that acts as a language interpreter. Oracles translate data from the real world into the strange digital language used to write smart contracts on the blockchain. And to do it in reverse.

Smart contracts are immutable and verifiable contracts that exist on the blockchain and are automatically executed if or when pre-determined conditions are met. The data used for these pre-determined conditions comes from the real world and is then converted to data on the blockchain.

How Chainlink works

The process starts when a smart contract on the blockchain requires off-chain data. A Requesting Contract is put out for information.

Example: Requesting Contract for a Service Level Agreement (SLA) contract.

The Chainlink protocol registers this request as an event and creates a corresponding Chainlink SLA Contract which is also on the blockchain.

The Chainlink SLA Contract generates three sub-contracts:

Chainlink Reputation Contract

Checks an oracle provider’s track record to verify its authenticity and performance history; discards disreputable and unreliable nodes.

Chainlink Order-Matching Contract

Delivers the Requesting Contract’s request to Chainlink nodes and takes bids on the request; selects the right number and type of nodes to fulfill the request.

Chainlink Aggregating Contract

Takes all the data from the chosen oracles and validates or reconciles it for an accurate result.

Chainlink nodes take the request for data SLA contract from the Requesting Contract and uses Chainlink Core software to translate that request from on-blockchain programming language to an off-blockchain programming language. This is required for real-world data to be understood by the blockchain.

The newly-translated version of the Requesting Contract is routed to an external application programming interface (API) that collects data from that source.

The data that has been collected is then translated back into on-blockchain language using Chainlink Core software. It’s sent back to the Chainlink Aggregating Contract which can be validated from a single source and multiple sources.

The Chainlink Aggregating Contract determines if the data from the nodes is faulty or dishonest, and discards answers if it is. It repeats the validation process for multiple sources and then reconciles all validated data by averaging it into a single piece of data that is stored as a smart contract on the blockchain.

Why Chainlink needs to be a decentralised network

A single centralised oracle creates a central point of weakness that compromises the integrity of the data on the blockchain. This is the very problem that decentralised smart contracts on blockchains are meant to solve.

For a smart contract on the blockchain to be secure and trustworthy, you need a decentralised network of notes that provide data from off-chain sources to the on-chain contracts. This process adds an extra layer of security to the hardware and eliminates issues around reliability and trust.

Who can use Chainlink?

Any individual or group that needs real-world data to power and secure the execution of their smart contracts can benefit from Chainlink’s robust and customisable framework for creating decentralised oracle networks.

Hundreds of teams working on dApps, blockchains, industry consortiums and enterprise projects rely on Chainlink to provide tamper-proof inputs and outputs for their smart contracts. The Chainlink network powers the leading DeFi applications including Aave, Synthetix, and yEarn, and secures billions of dollars in user funds.

As Chainlink is a permission-less framework for building oracles, anybody can join the network at any time and immediately start contributing to the growing ecosystem.

Is LINK a good investment?

Now you know all about how Chainlink works and how its native token, LINK, is used to incentivise good service from nodes, the next question is whether LINK is a good investment?

Firstly, trading cryptocurrencies is high-risk and speculative, mainly due to their volatility. It’s important that you understand the risks before you start trading. That being said, LINK is one of the “hottest altcoins” on the market at the moment and this has everything to do with the fact that there is real substance to it.

LINK is not a ‘get-rich-quick’ cryptocurrency. It has high value because it provides the market with a real-world solution to securing immutable and verifiable smart contracts. Chainlink expands the functionality of the world’s blockchains and provides developers with a new level of flexibility.

Just recently, Google announced that Ethereum app builders using Google software will be able to integrate data from sources outside the blockchain through a partnership with Chainlink. That says an enormous amount about the value the market places on Chainlink.

With Chainlink’s popularity rapidly rising, it’s digital token has real intrinsic value. LINK is sought after by node operators and developers of smart contracts and dApps and it plays an integral role in supporting the DeFi environment which has been instrumental in driving the success behind Ethereum, currently the second-most popular cryptocurrency in the world.

More importantly, LINK is priced right. It’s regarded as an affordable, entry-level altcoin.

Chainlink price check by Coindesk on 24 February

DISCLAIMER

Trading cryptocurrencies carries a high level of risk and may not be suitable for all retail traders and investors. Consider your capacity for risk before deciding to trade cryptocurrencies. There is the possibility that you could lose some or all of your initial investment so you should not invest money that you cannot afford to lose.

The information in this article is for education purposes only. Forex Trading Africa will not accept liability for any financial loss which may arise directly or indirectly from use of or reliance on information contained in this article.