According to defillama data, as of today, the total value of encrypted assets deposited in Liquid Staking Agreement (Liquid Staking) is 14.1 billion US dollars, which has become the second largest encrypted market area. The total value locked in DeFi lending protocols is $13.7 billion, ranking third, while DEXs top the list with $19.4 billion in deposits.
Liquid Staking Derivatives(hereinafter referred to as LSD ) has become the most anticipated narrative in the encryption industry in 2023.
So, what exactly is LSD, who are the current ecological participants, and what are the future prospects? Let's take a look together.
01
What is Liquid Staking LD (Liquid Staking)?
Pledging Token is the process in which Token holders lock their assets on the chain for a certain period of time to protect the network and obtain rewards . However, traditional staking is not flexible enough and may prevent token holders from using their assets for other purposes.
The role of liquidity staking now is to solve other problems by allowing token holders to stake their assets while still being able to use the staked assets as they please. This provides token holders with the benefits of staking rewards and network security without giving up control of their assets.
In simple terms, liquidity staking is a way for token holders to be rewarded and support the network while still having the flexibility to use their assets.
02
What is Liquid Staking Derivatives(LSD)?
Liquid staking Derivatives are a game-changer for those who want to stake tokens but don’t want to be tethered. These Derivatives represent the pledged assets of Token holders and confirm the participation of pledgers in the pledge pool
Excitingly, these tokens can be used for lending, trading and collateral in the decentralized finance world. This means you can get the benefits of staking Token without giving up the right to use it. It's a win-win situation that offers unprecedented flexibility and efficiency.
Derivatives may sound complicated, but they are actually a very common concept in finance. Let me explain it to you in simple terms, it is equivalent to a contract between two entities that allows for an assessment of the future value of the underlying asset.
In the world of cryptocurrencies, Derivatives are used to contractually speculate on the future value of cryptocurrencies on a specific date. This presents an opportunity for potential profit if the value of the cryptocurrency changes. Liquidity pledged Derivatives go a step further, allowing participants to enjoy the benefits of pledged Token, and at the same time participate in Derivatives transactions.
This is achieved through tokenization, which simplifies the process and makes it more accessible. This sounds powerful and gives people a lot of rewards, but it may still confuse some people, let's go further and understand it better
03
How does LSD work?
As we all know, "mortgaging" your tokens, which means you deposit them for a period of time, is usually done to help improve the security of the blockchain network, but as mentioned before, the disadvantage is that you can't use these tokens when you need them, which is Very inconvenient.
Liquid staking allows you to use your staked tokens elsewhere in the DeFi world while still earning rewards for staking. This is done through tokenization, i.e. through the use of liquid staking to generate tokens.
Therefore, your staked tokens can not only be idle, but also be used for other things, and you can still earn rewards by helping to keep the network stable and secure. This can motivate more people to stake their tokens and participate in the world of DeFi.
03
Is LSD an alternative to post-merge staking?
While LSD is a game changer, is it an alternative to staking on Ethereum post-merger? Maybe yes maybe not.
Let's go back to December 2020, Ethereum tested a new method of transaction verification called "proof of stake" on its beacon chain. This requires users to stake 32 ETH to become a validator, but their staked assets will be locked for a period of time.
Fast forward now to September 2022, and the entire Ethereum network has successfully transitioned from the old “PoW Proof of Work” protocol to the new “PoS Proof of Stake” protocol. This means miners are replaced by validators who stake their ETH tokens. However, due to the lock-up period, users cannot get back their staked tokens.
But fear not! The upcoming Ethereum Shanghai upgrade this month will allow existing stakeholders to retrieve their locked tokens. This is great news for Ethereum users as it will give them greater flexibility and control over their assets.
While the ability to withdraw staked ETH is an enticing prospect for new stakers, not everyone has the ability to stake the required 32 ETH. However, staking has proven to be a viable way to earn passive income, so users are looking for alternatives that don’t affect their liquidity. This has led to the emergence of liquidity staking protocols, which allow users to stake smaller amounts of ETH while still maintaining liquidity.
One of the most popular liquidity staking protocols is Rocket Pool. It enables ETH holders to stake as little as 0.01 ETH in exchange for one-to-one backed ERC-20 compliant liquid collateralized Derivatives. This means that users can enter or exit the market at any time, and since liquid mortgage Derivatives are tokens, investors can enter other markets. The Liquidity Staking Protocol provides a lower barrier to entry for more ETH holders to stake their tokens, helping to enhance the security and stability of the Ethereum network while maintaining flexibility in managing their assets.
Let's look at the pros and cons:
While liquid collateralized Derivatives have advantages, they also have some disadvantages that must be carefully considered. As with other aspects of cryptocurrency, it's important to weigh the pros and cons before committing to one. By taking the time to understand how liquidity staking works, it is important to make informed investment decisions.
advantage
- Staking is encouraged
Staking your cryptocurrency helps make the network more secure and stable, while earning you rewards. Liquidity staking Derivatives solve the problem of locking Tokens by providing liquidity for pledged Tokens. This means token holders can continue to trade or use their tokens even during the staking period. As a result, more people may be willing to contribute to the network by staking liquidity, ultimately benefiting everyone involved.
- access assets
Instead of being unable to use your own tokens when staking, you get liquid mortgage Derivatives that you can still use as collateral in decentralized finance yield protocols. This means you can earn passive income through staking rewards while still using your liquid assets to earn income. Liquid staking solutions offer a more flexible and versatile way to earn rewards than traditional staking.
shortcoming
-reduce
A major concern is the possibility of "slashing," which can lead to financial losses for node operators on Proof-of-Stake (PoS) networks. This mechanism is established to prevent validator misbehavior and ensure the security and stability of the network. Misconduct may include actions such as double signing or downtime. If validator misbehavior is detected, even if it is not intentional, they may lose a portion of their staked tokens. Therefore, investors need to consider the risks before deciding to participate in a liquidity staking protocol.
- lower output
Staking your cryptocurrency tokens (such as ETH) can help support the network and earn rewards at the same time. With liquid staking, you can withdraw and trade your tokens at any time, but returns may be lower due to the flexibility it provides. However, this flexibility also allows you to use your staked tokens as collateral for other investments, potentially leading to other earning opportunities.
-Smart contract risks
Another major disadvantage of LSD is that if the smart contracts that handle these Derivatives have some or any type of vulnerability or bug that hackers can bypass or exploit, then all amounts staked on these contracts, as well as the Derivatives, may be permanently lost
04
The future of LSD
With the launch of Ethereum 2.0, the transformation of the PoS consensus mechanism, this change has brought new opportunities for LSD to flourish and has the potential to change the staking landscape of Ethereum.
LSD allows users to stake their ETH while still being able to use their staked assets in other DeFi protocols. This offers the potential for greater capital efficiency and higher returns. However, until recently, the LSD market lacked competition, with few established protocols offering this service.
But as Shanghai is about to upgrade to Ethereum, the competitive landscape for LSD will change. With increased staking capacity, users will have more choices when choosing a validator, giving them greater security and flexibility.
This shift will also see the rise of new LSD protocols, offering enhanced features such as permissionless verification, slash protection, and tax efficiency. These new protocols will enable a wider range of users to participate in staking, even those with lower capital requirements, and provide institutional investors with greater customizability.
The growth of LSD has also opened up new opportunities for the broader DeFi ecosystem. As more and more users participate in staking, liquidity will flow to LSD, creating greater liquidity in DeFi protocols utilizing LSD. This increased liquidity will open up more opportunities for yield farming, liquidity provisioning, and other DeFi strategies, making the entire ecosystem more robust and efficient
Additionally, LSD offers investors a new way to gain exposure to ETH without taking the risk of holding the underlying asset. As more institutional investors enter the market, the use of LSD as a way to gain exposure to ETH without directly holding the asset is likely to increase.
Overall, the future of LSD on Ethereum is bright, with the potential for increased competition and enhanced functionality. As more and more users participate in staking, the wider DeFi ecosystem will benefit, providing investors with new opportunities and potentially increasing efficiency and innovation in the space.
05
competitors
The liquid staking game seems to be heating up, and it's not just about who can offer the highest yield anymore!
So, what makes a successful liquidity staking protocol? While there are several non-regulatory protocols ready to compete in this new, competitive world of product design, who will come out on top? Only time will tell! Let's take a look at some of the major players' competitors.
1. Lido
Lido is currently the largest provider of liquid mortgage services , with more than $9.42 billion in ETH mortgaged. The design of the protocol is simple, users deposit ETH to receive a tokenized representation of their shares. The staking process is handled by Lido's verifiers, and users earn rewards through the pledged Token.
Lido is a fast-growing player in the field of liquid collateralized Derivatives, providing users with a way to earn income through pledged ETH without sacrificing asset liquidity.
One of the main features of the Lido protocol is that it uses a decentralized network of validators, ensuring the security and decentralization of the network . This also allows for more efficient capital allocation, with pledged ETH being used as collateral to generate additional yield in DeFi protocols.
Another important aspect of Lido's product is its accessibility , users can stake any amount of ETH, whether or not they hold the full 32 ETH required to stake individually. This democratizes the staking process, allowing anyone to participate and benefit from the security and benefits of staking on the Ethereum network.
With growing market share and a commitment to decentralization and accessibility, Lido is well-positioned to continue its impressive growth trajectory in the liquid collateralized Derivatives space. As Ethereum approaches an update and the need for liquid staking solutions increases, Lido is likely to play a more important role in the DeFi ecosystem, providing users with a reliable and efficient way to participate in the staking process while maintaining their liquid assets .
- capital efficiency
One of Lido's greatest strengths is its capital efficiency . Unlike other protocols that require users to provide collateral for verification, Lido's validators are fully collateralized by staked ETH . This allows users to maximize their returns by minimizing their capital requirements.
-Decentralization
Despite its size, Lido still places great emphasis on decentralization . Any user can become a validator by staking 32 ETH and completing the verification process. This ensures that the protocol is secure and permissionless, and provides protection against centralized control.
2. Rocket Pool
Rocket Pool is rapidly developing into one of the leading liquidity staking service providers in the crypto space. What is its mission? Decentralize staking and make it more accessible to the masses.
One of Rocket Pool's fueling features is its permissionless validation, which allows any node operator to participate in validating the network. To unlock this feature, validators need to provide 16 ETH collateral and RPL (Token of the Rocket Pool Protocol) bond worth at least 1.6 ETH . This creates a built-in slashing protection mechanism that keeps users' investments from being staked.
But that's not all ! Rocket Pool’s rETH takes a unique approach to mirror staking rewards through accretion, making it more tax-efficient than other protocols . This approach avoids a launchpad full of taxable events, providing investors with a more attractive option.
However, Rocket Pool also has its weaknesses. Its high collateral requirements can be a significant barrier to entry for validators. But fear not, because the upcoming LEB8 proposal aims to reduce this requirement to 8 ETH. Still, it remains to be seen whether this will be enough to attract new validators as it scales.
Despite this challenge, Rocket Pool has seen significant improvements, capturing a significant portion of total and liquid collateralized deposits. As it continues to improve and expand its user base, it will likely remain a star player in the rapidly growing liquid staking market. So buckle up and get ready to ride the rocket pool to the moon!
- tax efficiency
Rocket Pool’s rETH is designed to mirror staking rewards by accreting in value, making it more tax-efficient than other protocols. This feature avoids creating a large number of taxable events, which is attractive to investors looking to minimize their tax liability.
- capital inefficiency
One of Rocket Pool's biggest weaknesses is capital inefficiency. High stake requirements for validators make it difficult for new users to participate in the network. However, the upcoming LEB8 proposal aims to reduce this requirement to 8 ETH, which could make it more accessible to a wider user base.
3. StakeWise
StakeWise is bringing its A-level game with the upcoming V3 protocol, which promises to cause a stir in the staking industry . While its existing dual-token model is impressive, V3's modular architecture takes it to the next level, allowing users to stake and choose their preferred validators in segregated vaults. After all, Lido, Coinbase , and Rocket Pool, there's a new player in town.
The ability to segregate slash risk to a single vault gives users added peace of mind, while the additional slash protection provided by overcollateralization means they can mint the protocol’s LSD osETH with only a fraction of their stake. This is a no-nonsense safeguard, and it shows that StakeWise knows how to keep users safe while still giving them the flexibility and freedom they need.
Of course, launching a brand new protocol is no easy task, and StakeWise V3 does have certain execution risks. But hey, no pain no gain, right? If the V3 takes off as we imagine it will, it will make the Lido look like a relic of a bygone era.
But let's be realistic. While V3 does offer some exciting new features, it also adds some complexity for the end user. Those who choose to liquidate their stake will need to keep a close eye on their collateralization ratios to avoid liquidation. StakeWise V3 is not for the faint of heart, but for those up for the challenge, it's the perfect playground.
- cut protection
StakeWise V3 offers enhanced slash protection through overcollateralization, where users can only mint osETH, the protocol’s liquid collateralized Derivatives, with only a fraction of their stake. This feature allows validators to join the network with low capital requirements while providing better slashing risk isolation
-Execution risk
Despite its encouraging features, StakeWise V3 faces significant execution risk as it is launching an essentially new protocol. End users have to manage their collateralization ratio to avoid liquidation, which adds complexity, which may also make it harder for some users to obtain it.
4. Frax Finance
Stablecoin issuer Frax is making a bold foray into the liquid staking space with its latest product, Frax ETH. Not only is it growing, but it's growing like a lush green forest! With 44,707 ETH deposits and a 0.7% share of the LSD market, Frax ETH is quickly becoming famous.
The protocol employs a clever design similar to StakeWise V2, allowing stakers to earn rewards while retaining their original ETH deposits. This approach not only provides greater capital efficiency, but also allows stakeholders to explore multiple assets in the DeFi ecosystem to maximize returns.
Despite its impressive growth, Frax ETH still faces some hurdles that could affect its long-term success. A major challenge is the inefficiency of the dual-token model, which increases incentive costs and fragmentation liquidity. Additionally, the current centralized nature of the protocol, with validators run solely by the Frax team, may deter some users.
Nonetheless, Frax ETH has a large amount of CVX at its disposal, which should help attract liquidity on Curve, and the team is committed to making the protocol more decentralized over time. So Frax ETH is definitely a project worth watching!
TVL (Total Value Locked) as of February 18, 2023: $5.8 billion
Frax (FX) price as of February 18, 2023: $1.00
Frax (FX) in circulation as of February 18, 2023: 302.4 million FX
Frax (FX) market capitalization as of February 18, 2023: $302.4 million
Frax ETH TVL as of February 18, 2023: $565.8 million
5. Coinbase
Coinbase, a major player in the crypto-asset space, has entered the liquidity staking market with its Coinbase Staking program . The program offers users the ability to stake their ETH and earn rewards in the form of staked ETH (stETH).
Coinbase Staking has quickly gained massive traction in the market, partly due to its reputation as a trustworthy and secure platform. Its user-friendly interface and seamless integration with other Coinbase products also make it an attractive option for retail investors.
Additionally, Coinbase Staking's innovative design allows users to trade their stETH on the open market, providing greater liquidity and flexibility than traditional staking protocols. This led to explosive growth, with Coinbase Staking capturing a large share of the overall and liquid staking market.
However, the program does have some weaknesses. Coinbase Staking’s high minimum deposit requirements can make it difficult for smaller investors to participate, and its centralized validation model has raised security and censorship concerns.
Despite these concerns, Coinbase Staking's impressive growth and strong market position make it a key player in the rapidly expanding liquid staking market.
TVL (Total Value Locked) in Coinbase staking pools as of February 18, 2023: $27.8 billion
Number of cryptocurrencies backed by Coinbase staking as of February 18, 2023: 20
Annual Yield (APY) for staking Ethereum on Coinbase as of February 18, 2023: 5%
Annual Yield (APY) for staking Solana on Coinbase as of February 18, 2023: 8%
Annualized Yield (APY) for Polkadot Staking on Coinbase as of February 18, 2023: 12%
06
summary
LSD has been around for a long time now, especially with the Shanghai update approaching, because that will open a window for more people as the fear factor decreases. As for competitors, there is and always will be competition in every field, it's up to us how we choose, so your best bet before getting into these things is to do your own research (DYOR).
