The Bitcoin client just released has the long-awaited encryption feature.  With this feature the wallet file that is stored locally is better protected from loss due to theft.

Prior to this encryption feature, any person or program that could copy the Bitcoin wallet file from the user’s computer could then spend those bitcoins.  This encryption is optional but when enabled will protect the wallet’s private keys that the Bitcoin client software needs when sending a payment.  The steps for enabling encryption require the user to choose a passphrase that will later be needed each time a payment is to be made.

Even with encryption caution is warranted as more sophisticated malware (trojans) could have the ability to log keystrokes and know the passphrase in that manner.  Financial websites that use account passwords and PINs, for instance, are subject to the same risk.  For this reason, many Bitcoin exchanges have implemented two factor authentication using a special device (such as the Yubikey used by Mt. Gox) or a mobile phone (such as DuoSecurity used by several exhanges and Mobile-OTP used by ExchB).

For typical consumer use, this encryption method will likely be adequate protection.  Those who hold larger amounts to protect will consider using offline wallets or, when warranted, dedicated hardware with an “air gap” separating the wallet from any network.

Those using this encryption should know that there is no passphrase recovery mechanism.  If the passphrase is forgotten the funds held by the wallet cannot be spent.

This release also includes several bug fixes including stability and performance-related fixes.

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