Obsidian

Obsidian is a block created whenever Water touches Lava. When this occurs, the Lava or Water (whichever is below the other material) becomes Obsidian. As of the 1.0.2 update, it can only be mined with a Nightmare Pickaxe or better.

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Obsidian can be crafted into an Obsidian Skull, which is an equippable accessory that provides protection from ores like Hellstone and Meteorite ore, which would normally burn you. Obsidian is also a component required for crafting Hellstone Bars, as well as Obsidian Skin Potions. Obsidian is hard to find naturally due to Water rarely spawning on Lava, but the use of a Bucket makes gathering Obsidian much easier. If you don't have a Nightmare Pickaxe you can also use Dynamite or Bombs to blow up the ore and gather it, although caution is advised; Bombs being the safer of the two options due to their smaller explosion radius.

Creating Obsidian below the ground: Building a simple Obsidian farm:
 * 1) Find an Underground body of Water.
 * 2) Dig a tunnel at the bottom of this Water, so that the water drains lower and lower.
 * 3) Whenever you see a cave or another body of Water through the walls, connect your current tunnel to them so that the water drains faster and there is more water.
 * 4) If you are running out of air, dig a small side passageway with a "bubble" above the Water level so you can breathe from time to time.
 * 5) Continue your ever expanding Water tunnel until you find Lava. When you find lava, allow the water to come in contact with the Lava to produce Obsidian.
 * 6) Using this method, you should have a near limitless supply of Water above you, and can therefore produce as much Obsidian as you want.

The large container should fill completely with Obsidian within minutes.
 * 1) Build a large container (about 20x20) out of blocks.To avoid accidents, be sure to use a sturdy material such as Dungeon Bricks.
 * 2) Build two smaller containers (10x10) next to it.
 * 3) Craft four sets of Pumps
 * 4) Pour water in one container and lava in the other, and set up a pump in each to duplicate the liquids inside of them.
 * 5) Place an inlet pump in the top part of each container, and link it to an outlet pump inside the bigger container
 * 6) Link all sets of pumps to a Switch or Lever.

Trivia

 * Prior to 1.0.2 Obsidian could be mined using any pickaxe. In patch 1.0.2 and later versions, Obsidian can only be mined with a Nightmare Pickaxe or better.
 * Even though Obsidian is of White rarity, it doesn't get destroyed by Lava when completely submerged.