Wallets and mnemonic phases

Recap Owners of bitcoin have a public address that bitcoin can be send to by anybody, and they have a private key associated with the public address that allows only them to send bitcoin from it. They can send bitcoin from their public addresses by creating a transaction, signing it with their private key, and sending it to one or multiple nodes of the network. The nodes will share the unconfirmed transaction with their peers, inevitably reaching miners who will add the transaction to their blocks, generate a proof-of-work, and send the block which includes the transaction back to the nodes. The nodes verify the proof and the validity of all transactions in the block on correct spending habits and signatures, and add it to their own blockchain. The transaction of the user is now confirmed on the network.

Let us now discuss how users actually manage their public addresses and private keys, and go about signing and sending transactions to the Bitcoin network. They do so using a bitcoin wallet.

A bitcoin wallet is a device, physical medium, program or a service which stores public addresses and/or private keys for a user. In addition, some wallets will help the user connect to nodes of the bitcoin network and sign transactions.

Anything that stores public addresses and/or private keys can be considered a wallet. A paper note with a private key written on it is a form of a wallet. A .txt file stored on your computer with a private key in it is technically - albeit !!!TERRIBLY INSECURE!!! - a form of a wallet. And an open source program or hardware device that stores your keys is also considered a wallet.

Some wallets are existing media that are reused, such as a USB-stick or a paper note, and some types of wallets are specifically created for this very purpose of managing keys, such as a Ledger Nano X or Trezor. Some wallets are hot, meaning the keys are stored on a device that has a connection to the internet (such as a mobile wallet) and some wallets are cold, meaning they are not stored on something connected to the internet (such as a paper wallet or certain hardware devices). Some wallets provide you with full ownership over your own private keys, and some wallets - and this should start sounding alarm bells - do not.

In short, a wallet stores your keys, helps you sign and send transactions to the Bitcoin network, and often allows you to see your balance and transaction history.

Different types of wallets

Most devices or software applications that are specifically created to function as a wallet, such as a Ledger, a Coldcard, or the Electrum wallet, will allow you to use something called a mnemonic phrase.

A mnemonic phrase can be thought of as a sort of master private-key. We have already discussed that each private key is associated with its own public address, and that it is the private key that is used to sign transactions to prove ownership. A mnemonic phrase, sometimes referred to as a seed phrase, is a string of 12 or 24 words that can be used to generate multiple private keys and thus provides access to multiple public addresses at once. These words are truly randomly picked from a specific list of 2048 words (BIP39).

An example of a mnemonic phrase could be something like this (please DO NOT use this phrase or inspiration from this phrase for your own bitcoin keys):

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Below is an illustration of Alice using a Ledger Nano X (hardware wallet) to manage her bitcoin. The Ledger has provided her with a random mnemonic phrase that she has stored on a paper note as a backup. Using the mnemonic phrase and the Ledger, Alice can sign and send transactions from the many different public addresses to the nodes of the Bitcoin network. She does not have to concern herself with each individual private key to do so, although she can access them if she wants. With her mnemonic phrase, she is the sole owner of her bitcoin as only she can send bitcoin from her public addresses. This is called self-custody of bitcoin, as she is in full control of her own funds.

Alice uses a Ledger hardware wallet to self-custody her keys using a mnemonic phrase and sign/send transactions.

At this point, you might be very excited to start using Bitcoin yourself. I certainly hope you are! If so, check out the Getting Started with Bitcoin segment that we will append at the end of the journey. This will lay out the different parts of using Bitcoin and what your best options may be, considering your specific goals with using Bitcoin. The segment will provide different methods of obtaining bitcoin, storing bitcoin, and paying with bitcoin, which you can combine in a way that you see fit.