Author: Algo Rhythmic
Translation: vernacular blockchain
My goal is to provide a comprehensive introduction to Solana liquid staking mining. I want everyone to understand not only what liquid staking mining is and how to do it, but also why you should do it. What makes a person wake up in the morning and say to himself: "Today I am going to mine my SOL for liquid staking? Come on, join me and I will take you into a whole new world."
I also tried to structure this rather long article so that you can skip certain parts if you are already familiar with the topic
Note: This article focuses on popular science, not investment advice.
1. Staking on Solana
Before we talk directly about Liquid Staking, let’s first understand regular staking. In a delegated proof-of-stake (POS) network like Solana, staking is delegating your tokens to a validator who must commit to faithfully validating transactions on the network or face penalties. This is what creates fundamental alignment between validators and users of the network, without which double spend, censorship, and various other abuses can occur. When you do "local" staking, you choose a specific validator and delegate your tokens to them. You can do this through a range of wallet software or using the Solana command line interface.
Since the launch of the Solana mainnet beta in February 2020, Solana has been following this proposed inflation plan:
As I write this, it's February 2024, four years after that launch, so it's easy to see that the current inflation rate is about 5%. The precise amount of inflation is controlled by three parameters: initial inflation rate (8%), deflation rate (-15%) and long-term inflation rate (1.5%). The inflation rate starts at 8% and decreases at an annualized rate of 15% at each era boundary until it finally stabilizes at 1.5%. This may change in the future, but this is the plan observed since launch.
Who owns the SOL Token generated through inflation? It’s simple: stake miners. This means that every epoch, equity miners are increasing their relative ownership of the total amount of SOL Tokens at the expense of non-stake miners. Nothing more complicated is actually happening. If all SOL was stake mined, no one would increase the total value of their holdings. This results in a high staking ratio on the Solana network; at the time of writing, approximately 2/3 of SOL is stake-mined. However, the proportion of liquid staking mining is still low.
For POW blockchains, validators bear high equipment and energy costs, which forces them to sell some (or possibly all) of the tokens they receive just to balance costs. In a proof-of-stake network like Ethereum, these costs are very low, so there is hardly any selling pressure. On Solana, the operating expenses of the validator are slightly higher than that of Ethereum, because the validator must execute transactions as part of the consensus, which incurs costs, and the cost of the validator equipment is slightly higher than that of Ethereum, because it requires more than Ethereum. for higher performance. Therefore, validator selling pressure is still very low compared to Bitcoin, but slightly higher than Ethereum.
Translation: I think "Solana's cheap transactions are artificially subsidized through token inflation" has become a blood libel for Solana. CT learned something about inflation from Bitcoin and now we can’t forget it. There is no pressure to buy or sell
Next let’s talk about Liquid Staking.
2. LSTs (Liquid Staked Tokens) and continuing risks
There are high incentives to stake on Solana to avoid being diluted by other staking miners, and one of the few reasons not to staking is that it locks your capital into each epoch. With liquid stake mining, you contribute your tokens to a stake pool that manages the stakes distributed by validators, and tokenize the fact that you have committed your tokens to the pool. This move returns a new asset representing that fact to staking miners and allows users to redeem it for original staking mining SOL. Therefore, in many cases it can be used as a functional equivalent of SOL.
The most popular liquid equity mining tokens (LST for short) on Solana are almost all “rewarded” tokens. Almost all SOL in the pool is delegated to validators chosen by the pool operator (sometimes minus a small buffer for quick redemption), so these delegated SOL in the pool accumulate rewards in the form of more SOL . Therefore, the amount of LST increases over time, but in each epoch the amount of SOL it represents increases, and therefore the price relative to SOL increases. Another method is "rebasing", that is, LST holders will obtain more liquid tokens, and each liquid token can be redeemed at a 1:1 (with delay), but this is not commonly used on Solana.
On Solana, each epoch takes approximately 2.5 days. If a user wants to retrieve their original equity mining SOL, they must submit a request to retrieve the delegated equity and wait for the end of the era before they can redeem it. In traditional financial markets, this is known as taking ongoing risk. You are betting that the reward of locking up your capital for 2.5 days will outweigh the risk of you needing it immediately. In terms of duration, the 2.5-day is much less risky than the 10-year Treasury note. On the other hand, in general, U.S. Treasuries are... somewhat less volatile than cryptocurrencies.
Therefore, when holders of LSTs want to obtain the basic SOL Token, they can redeem it from the equity mining pool controlled by the Liquid Staking protocol, choose to wait for the end of the era before it can be decommissioned by the underlying pool, or pass it through cash Some liquidity pools trade mSOL into SOL on the open market. Here is an example from Marinade Finance:
Marinade uses the Jupiter decentralized exchange aggregator to trade mSOL in exchange for SOL. I did some checking and found that un-delegating 10,000 mSOL would have a 0.01% price impact, but when the number of orders increased to 100,000 mSOL, the price impact shown was 100,000 (actually I don't have that many mSOL , but can be simulated), what does this mean?
This means that if you want to de-delegate and get SOL immediately, you will get 8.162% less SOL than if you wait for the end of the era and then de-delegate. The above price impacts are determined based on current market conditions, i.e. dependent on liquidity conditions. If reexamined, this number may increase or decrease. This highlights an important fact about LST. As I mentioned before, they can serve as functional equivalents of SOL in many situations, but there is one important difference: you take on a certain level of ongoing risk. If you need funds urgently and in large quantities, you will have to accept a lower price to get the funds you need.
A simple example can help understand this. Let’s take a look at the “mSOL decoupling” event that occurred on December 12, 2023. In just 20 minutes, a wallet address 85b5jKkgSuopF3MUA9s4zsBhRANrererBLRx689PqTPA exchanged approximately 68,536 mSOL into SOL through 9 transactions on the open market. This caused the price of mSOL to drop from approximately $78 to $66. The following is an analysis from birdeye.so:
You can see the price returns to its previous levels relatively quickly. Why is this so? Because arbitrage bots and other speculators sensed this opportunity and started buying mSOL because they didn’t need the funds in the next era. The price of the base SOL doesn't really change, so they are essentially buying a discounted SOL.
This situation is not limited to mSOL, but applies to every LSTs (with some additional conditions that we will explore later). The liquidity of any particular LST will inevitably be less liquid than the SOL Token. However, this is mainly something to worry about if you have a large amount of liquid stake-mined SOL. In general, having more money also means facing more challenges.
So, the lesson here is that while liquid staking mining tokens bear some of the same ongoing risks as regular staking mining SOL, these only become apparent when there is insufficient liquidity in the market. The more liquid the LST market is, the smaller the impact of ongoing risks. If your position is relatively small, you may not feel this ongoing risk at all. Nonetheless, it is still important to understand the liquidity limitations of a token.
3. LST leaders and their incentive structure
There are three LSTs with a total locked value of over $100 million on Solana, highlighting different approaches to incentivizing adoption: Jito (jitoSOL), Marinade (mSOL), and BlazeStake (bSOL). This is obviously subject to change as well, but you can see the ballpark numbers here:
https://defillama.com/protocols/Liquid%20Staking/Solana
Currently, Jito is number one, so we'll start with that.
1) Jito’s value proposition
The Jito Protocol invites stakers to join the ranks of earning MEV on Solana and offers rewards for minting JitoSOL. JitoSOL is implemented through a secure SPL Stake Pool with optimized verification node groups and MEV allocation. The protocol supports efficient transaction processing through the Jito-Solana client and occupies an important position in Solana DeFi. Use of JitoSOL earns points in the growing Solana ecosystem and provides competitive yields and performance, providing the community with a unique staking experience.
However, one real difference is the Maximum Extractable Value (MEV). In short, MEV allows traders to extract value from transactions, but Solana’s design makes MEV harder to extract. Jito creates a more orderly and accessible environment for the MEV market by modifying the Solana Labs validator software to increase the ability of validators to accept and charge for orderly transactions. The liquid equity mining pool that entrusts SOL to Jito can obtain this part of the profit. Other LSTs can also benefit from being delegated to validators running Jito's modified validator software.
2) Marinade’s value proposition
Marinade is the first liquid staking mining protocol on Solana, leading best practices in the field. When you do staking mining directly, you need to choose a validator, but the liquid staking mining pool will automatically assign you to multiple validators, reducing the risk. Last month, Marinade launched an initiative requiring validators to create an insurance fund to safeguard the interests of delegators. In addition, they also launched a "targeted equity" function that allows miners to support specific validators and obtain additional incentives. Marinade's governance is conducted by MNDEToken, and holders can vote to decide how the protocol operates. This token is independent of mSOL. Now they are running a campaign where participants can receive additional MNDETokens as rewards to encourage them to support the development of the protocol.
3) BlazeStake’s value proposition
The main point of differentiation of BlazeStake is associated with the BLZE governance token. Similar to MNDE, BLZE can be used to vote on incentive allocations, but also has independent value. BlazeStake is a relatively young project, so they have only distributed about 80% of the total supply of tokens, while Marinade has fully distributed their tokens and must repurchase them to create MNDE token incentives. Depending on your perspective and investment time horizon, this may be a benefit or a disadvantage. Jito also has a governance token JTO, but it is not currently used to incentivize staking mining with Jito. Let’s quickly compare the top three governance tokens by the protocol’s TVL, including market cap, circulating supply, and growth trends:
Data intercepted on February 16, 2024, from Defillama, Coingecko and Birdeye
BLZE performs well in terms of the ratio of total locked value to the full diluted market capitalization of the governance token. However, there are several issues to be aware of. First, JTO's FMDC is high because of lower circulating supply, which may cause FMDC to be less accurate in the short term. Secondly, BLZE has only unlocked 2/3 of the token supply, so new tokens will enter the market. To know the unlocking schedule, please refer to this: https://twitter.com/solblaze_org/status/1688480225255161856.
What uses of BLZE make it valuable? Similar to MNDE, you can help bSOL achieve its goals by voting for specific governance proposals. However, BlazeStake uses a mechanism called staking gauges to give users more consistent and granular control. You can choose to vote in Realms.today's Decentralized Autonomous Organization (DAO), direct additional stake to specific validators, or direct more BLZE rewards to specific liquidity pools in DeFi. BLZE holders can also lock their BLZE for up to 5 years to increase their voting rights in the DAO. Below is a screenshot of the stake amount showing some example options to which votes can be directed after depositing into the DAO. In LST, these features are quite unique.
Some DeFi protocols require you to claim BLZE rewards within their user interface, and BLZE rewards will be airdropped directly every two weeks. You can check your wallet's current SolBlaze score at rewards.solblaze.org. There is no real advantage to trying to improve your score by forging multiple wallets. The basic formula is: 1 bSOL in your wallet = 1 point, 1 bSOL in your supported borrowing protocol = 1.5 points, and 1 bSOL in your supported bSOL liquidity providing position = 2 points. This roughly corresponds to the risk you take with your capital, so it makes sense that the higher the risk, the higher the reward.
It’s also worth noting that BlazeStake offers an option to stake-mine your SOL with a single validator with what they call “Custom Liquid Staking.” Unlike Marinade, 100% of the stake will be allocated directly to this validator. It should be reminded that unlike Marinade, Marinade only delegates 20% of the equity directly to the validator of your choice, and the remaining 80% is distributed through their delegation strategy algorithm. Marinade details this in its documentation, but it's not immediately apparent in its user interface, which I think is a bit less than ideal.
BlazeStake has some other interesting features. They offer a real SOL faucet, meaning if you mistakenly lock all your SOL on their platform and don't have enough SOL to cover the unlocking transaction fees, you can use this faucet to get some SOL to cover the fees. This is very convenient because you don’t need to bring in new funds through a centralized exchange. In addition, they provide a simple token minting user interface that allows you to easily create an SPL Token, and provide an RPC status page and SOL Pay SDK. All of these are beneficial features that help promote the idea of SOL and liquid staking mining.
If BlazeStake's primary value comes from the issuance of its governance token, then BLZE's price action is what drives value. The price of BLZE started to increase at the end of November 2023 and remained stable between $0.002 and $0.004, but based on the above data, there may be a lot of room to rise. If it can remain stable like Marinade, there's room for 2.8x growth.
In my opinion, BLZE's valuation should be comparable to, or even higher than, MNDE. I'm not sure how to compare JTO's valuation to the other two. I love this project, what they are doing with MEV on Solana is fundamentally unique, and I look forward to new innovations in the future, but with almost 90% of the token supply still to be issued, this seems a bit high. But fully diluted market cap doesn't matter... until it does. Regardless, I think all three projects have good chances of appreciation relative to the U.S. dollar because these liquid staking mining protocols are creating value. Simple argument: liquid stake mining is good.
To summarize the sections on the three most important liquid staking mining protocols on Solana, they all highlight the benefits of Solana’s decentralization. Liquid stake mining pools will spread stake across a broad set of validators rather than creating a winner-takes-all situation. They all openly advertise their safety. Each Liquid Staking protocol has smart contract risks, that is, the risk of smart contracts being wrong when operating staking mining pools, but they all have a credible sense of security. These are all good things, but they don't really differentiate between the three methods, which is why I tried to highlight their unique features above.
4. Sanctum and the future of unlimited liquid equity mining
There are many other Liquid Staking protocols on Solana, and the number of these protocols is about to increase significantly thanks to the liquidity support pool that sanctum.so is working on. Their goal is to make any kind of liquid staking mining protocol as liquid as possible by accepting all liquid staking mining protocols and providing SOL exchange services. They charge less than 0.03%, usually 0.01%, which essentially amounts to taking the period risk for you. You can immediately exchange your liquid equity mining token for SOL, and the pool provides a buffer for this, spreading the period risk over a wider range.
As of now, Sanctuary supports twelve different liquid staking mining protocols, but their goal is to solve the liquidity launch problem for almost all Liquid Staking protocols. The liquidity of a Liquid Staking protocol only depends on the liquidity available in the liquidity pools of protocols like Orca and Radium, so new Liquid Staking protocols often need to develop strategies to boost liquidity in order to fulfill the committed part of the Liquid Staking protocol. Sancrum provides a huge additional buffer so that new and low market share liquid staking mining protocols can have immediate liquidity.
As of now, you can use Sanctum to instantly redeem liquid equity mining Tokens for SOL, including: bSOL, cgntSOL, daoSOL, eSOL, jitoSOL, JSOL, laineSOL, LST (Marginfi’s liquid equity mining Token), mSOL, riskSOL, scnSOL and stSOL.
Sanctum's universal LSTs liquidity pool makes it possible to conduct larger-scale experiments in the field of Liquid Staking.
5. How to conduct Liquid Staking
Now that you know some of the options, let’s briefly look at how to do it. Taking bSOL as an example, just go to stake.solblaze.org, click the "Stake" tab, and the following user interface will appear.
Keep in mind that, like most LSTs on Solana, bSOLs generate revenue, so you get back less bSOLs than you submit. Don't let this scare you. In the image you can see 0.8993 bSOL = 1 SOL. This is because 0.8993 bSOL represents a claim on the BlazeStake liquid staking mining pool equal to 1 SOL, so you will not lose any value. As SOL holdings in liquid staking mining pools grow, this number will continue to decrease, meaning the amount of SOL you receive per bSOL will continue to increase. Currently 1 bSOL = 1.11 SOL, and this number will continue to rise over time.
Select the amount, click the button, approve the transaction, and you're done.
6. LSTs and DeFi
Now that we have a pretty good understanding of how LSTs work, the options for LSTs, and the benefits of different approaches, let’s take a look at the DeFi options. The purpose of all this is to turn your staking token into liquidity so that you can do all kinds of things with it.
Let's start with something relatively simple, like borrowing.
loan
One of the easiest and lowest-risk things you can do with LST is to lend it out. Platforms such as MarginFi, Solend, and Kamino allow users to deposit collateral and borrow other assets of their choice. Cryptocurrencies are often very volatile and all these platforms only offer over-collateralized borrowing positions. This means that your counterparty must post collateral worth more than the asset they are borrowing. This typically changes based on an assessment of the quality of the collateral. If the value of deposited collateral falls below a certain threshold, it will be liquidated and used to repay the borrower.
The rules for this liquidation method are somewhat complex, and different projects take different approaches. If you are going to invest a lot of money in venture capital, be sure to understand these rules.
Typically, the annualized yield on LST is relatively low because the demand is not that high. Since it's already staked, the biggest, lowest-risk profit opportunity has already been taken advantage of. Still, you can lend it out in a relatively safe way, get some extra yield, or possibly get some protocol rewards for borrowing, so it's an option worth considering.
Looping
Now that we've talked about borrowing, let's talk about what borrowing can accomplish. Assuming you have 10 bSOL, the current advertised annualized return is 7.34% (keep in mind that this number will vary slightly from period to period), plus 0.81% p.a. in the form of BLZE issuance conversion rate of return (which depends on the price of BLZE). How can you earn more? One way is to deposit these bSOL into a borrowing protocol, lend out more SOL, and then stake that SOL with BlazeStake. Drift Protocol and Kamino Finance offer a simple product that does this with one click, as well as variable leverage that you can configure. You can also do this manually via a protocol like Solend. An important variable to note is the SOL borrowing rate. The higher this interest rate, the lower your overall APR. why? Because you have to deduct it as a cost. Here's a quick example from Drift's SuperStakeSOL UI.
In this example, you lend 5 SOL using 10 bSOL as collateral. You have to pay an APR of 0.6% to lend out SOL, but you can then stake that SOL again with bSOL and earn additional earnings again. This makes sense as long as the borrowing rate is lower than the reward. Remember, you are taking a risk here. The main risk is a "decoupling" event similar to mSOL mentioned above. This can happen at any time because the mechanism that associates its value with the SOL has a duration component.
Provide liquidity
Another way to increase LST returns is by providing liquidity. Underpinning decentralized exchanges are liquidity pools that enable you to exchange Token pairs. If there are enough of these pools, you can exchange any asset via a cross-pool swap through a list of pools. Since USDC and SOL generally have the deepest liquidity, any route will usually go through them, for example, if you want to exchange WIF for WHALES, you might first exchange WIF for SOL, and then exchange SOL for WHALES.
Pools charge fees for exchanges, which are returned to liquidity providers (LPs). When the transaction is balanced and the amount of WIF exchanged is the same as the amount of WHALES exchanged, the price remains stable and LP only withdraws fees. However, this fee is justified because of the risk of volatile losses. If demand begins to tilt significantly toward WHALES, the amount of WHALES in the pool will decrease, while the amount of WIF will continue to increase until LPs only hold WIF, and the value of WIF now is lower than before. This trend can obviously reverse, which is why it's called a volatile loss, but it's something to keep in mind.
So, which liquidity pools are attractive to LST? First, the SOL-LST pool is popular because it supports instant staking and unstaking operations. Secondly, LST1-LST2 type pools are also great because you hold two LSTs and they both earn normal staking benefits while also earning a small portion of the transaction fees. You know their prices should be highly correlated because they are correlated (although not anchored) to the SOL price. The risk of volatile losses is low. Third, for a higher risk, higher reward option, you may want to consider a pool that allows you to exchange LST for its protocol governance token, such as jitoSOL-JTO or bSOL-BLZE. These are typically incentivized through additional governance token rewards to ensure reasonable liquidity.
I cannot emphasize enough the importance of understanding the additional nuances that liquidity offers. Different pools differ in how they allocate liquidity and the control LPs have over this. Different approaches will be better or worse depending on how the tokens are trading against each other, so you need a good mental model of how the price action will unfold, so you want to put liquidity in the pool to get that good all the time result. For the first two options (SOL-LST, LST1-LST2), your mental model is basically "they will continue to be highly correlated", which makes this very simple. If you want to delve deeper than the simple options, I recommend starting with a very small amount and watch how the price action unfolds. Pay attention to how the balance in the pool changes as assets trade, how fees accumulate, and decide whether it's worth making a larger investment.
Some DeFi protocols, like Kamino, provide vaults that automatically manage LP strategies so you don't have to do much. They come with a pre-built strategy for putting funds into the liquidity pools they follow. You should understand what it is before doing this, but it means you don't have to manually go into the pool and rebalance your range. Of course, they charge a small fee.
The three combinations of lending, revolving, and providing liquidity don't exhaust your options on LST, but I don't want to turn this into a thesis. If you haven't tried all three of these options, you might want to give them a try before diving in.
7. Conclusion
Hopefully this article has given you a solid understanding of Liquid Staking on Solana. The future of LST and DeFi on Solana is very promising, and the speed of innovation in this field is also amazing.
If you find any errors in the article that need to be corrected, or you feel that I've described something incorrectly, I'd be happy to receive feedback and consider making changes.
The amazing thing about Solana is that you can try almost all of them for $10. If you're worried about the risks involved and whether you understand them enough to try this, you can start cautiously and get a feel for it. The only person who can evaluate your risk appetite, and whether any given opportunity is worth taking, is you.
