For years, various blockchain projects have been rumored to be future “Ethereum killers,” projects that would dethrone Ether from its throne and usurp its title as the primary digital asset. That day seems to have arrived, but it seems to be an inside job. Ethereum (stETH) and other liquid derivatives are poised to render Ether (ETH) obsolete as an asset.
The move from proof-of-work (PoW) to proof-of-stake (PoW) allows everyday users of decentralized finance (DeFi) to enjoy rewards previously reserved for miners, simply by holding stETH or any other liquid derivative of ‘ETH. This has sparked a flurry of interest across the industry, from individuals to centralized finance (CeFi) and DeFi institutions. Over the past month, ETH liquid staking derivatives have received a ton of attention, and industry titans – including Coinbase and Frax – have released ETH liquid staking derivatives.
Liquid staking derivatives offer all the benefits of regular ETH while being a yield-generating asset. This means that holders are able to gain exposure to the price action of ETH and maintain liquidity while exploiting the benefits of staking. Wallets holding stETH will see their holdings increase gradually, with returns from staking being added to the initial sum on a regular basis.
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While most staking strategies require funds to be locked in a validator, liquid staking derivatives allow users to conserve liquidity while benefiting from the return of staking. ETH stuck in staking validators is not available for withdrawal until some ambiguous time in the future, likely with the Shanghai update. Although stETH is still trading at a slight discount to ETH, this gap should definitely close once withdrawals are allowed. Simply put, ETH liquid staking tokens are simply more capital efficient than standard ETH or more traditional staking practices.
From a user’s perspective, there is little reason to hold regular ETH, the only potential upside of which would be a price increase, when they could hold a liquid staking derivative that would increase their potential profits through staking yield. Project founders adopted a similar mentality. From DeFi projects to non-fungible token (NFT) projects, Web3 teams have integrated stETH into their protocols, with behemoths like Curve and Aave making it even easier to integrate stETH into users’ investment strategies. Challenge.
For lending protocols, stETH offers the ability to increase return guarantees without having to make risky investment decisions to keep users happy. NFT projects are able to establish a revenue stream through their currency proceeds rather than being left with a finite lump sum. By making it easier for Web3 projects to stay afloat and keep their community happy, ETH liquid derivatives allow project managers to stop worrying about money and implement real innovation.
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In addition to being much more capital efficient, ETH liquid staking derivatives help maintain the Ethereum network. stETH and other derivatives represent Ether, which was deposited in an Ethereum validator to help ensure network security.
The centralization of staked ETH has been a major criticism of the PoS consensus model, with Lido accounting for over 80% of the staking liquid derivatives market share while controlling over 30% of the staked ETH. However, the recent proliferation of alternatives is poised to allay these concerns, with the market share split among several organizations. Exchanging ETH for liquid staking derivatives is a way for users to support decentralization while filling their bag.
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As the benefits of staking continue to be covered in the press, liquid staking derivatives are sure to become a central part of even the simplest of DeFi strategies. Coinbase providing “cbETH” means that even retail investors will be familiar with this strategy. We are likely to see a surge in protocols accepting liquid staking derivatives as users begin to flock to this essentially free return. Soon, many DeFi users may only be holding ETH to cover their gas costs.
The proliferation of liquid staking derivatives will help increase the amount of ETH deposited in the various validation systems, which will enhance network security while providing a return to provide financial benefits to supporters. ETH’s days seem to be numbered. Beyond a nominal gas allocation, any ETH not converted into a liquid staking derivative will simply be money left on the table. The much-heralded ETH killer seems to have finally emerged, although it looks like it will only bolster Ethereum’s security and the bags of its supporters.
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