Liquid Staking Derivatives: Money Legos in DeFi

Liquid staking is now the second largest sector in crypto after DEXes, replacing DeFi lending. Today the liquid staking narrative remains strong in anticipation of Ethereum’s Shanghai upgrade, and this report explores its current landscape.

Apr 03, 2023
Liquid Staking Derivatives

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Key Takeaways

In March 2023, Ethereum reached a new milestone: Over 17.8 million ether (ETH) have been deposited into the Ethereum Beacon Chain staking contract, constituting 14.8% of total ether supply. Liquid staking protocols represent a US$14 billion market today. Over a third of total ETH staked are locked up in liquid staking.

Eth Staked Breakdown

Lido dominates the liquid staking space, making up the majority of the total liquid staking deposits with 29 active node operators as of the end of Q4 2022. Lido alone holds 31.36% of the market share for staked ETH across both centralised and decentralised players in the sector.  As of 16 March, it is also the largest DeFi protocol in terms of total value locked (TVL), overtaking MakerDAO by a significant margin.

Liquid Staking Pool Deposits

Rocket Pool is the third-largest liquid staking protocol for ETH. Since ‘The Merge’, it has enjoyed the largest percentage of growth in terms of ETH deposits across top protocols.  While most liquid staking tokens were trading at a discount in 2022, Rocket Pool’s LSD token rETH has consistently traded at a premium: It traded heavily discounted after some market setbacks in 2022 until October when it started to recover again. At the time of writing, it is back trading at a premium at about +1.07% above its implied fair value rate.

Reth Peg Vs Market Price

Frax Finance has recently seen the most notable growth across decentralised liquid staking protocols: New addresses holding frxETH have rapidly increased since October 2022, according to IntoTheBlock. Its TVL has now grown to US$213 million from the US$55 million reported at the beginning of 2023. Despite only recently launching post-Merge, both frxETH and sfrxETH tokens are already seeing significant adoption thanks to frxETH’s relatively high staking APY (~10% to 11%, compared to Lido’s 5%).

Read our deep-dive report on Frax Finance and other decentralised liquid staking protocols in our latest Private report “Deep Dive Into Liquid Staking Derivatives”.

Frxeth And Sfrxeth Tvl

One venue where users can generate additional yield with their LSDs is within DeFi protocols through liquidity mining. For example, ETH holders can stake their ETH in Frax to receive frxETH. These tokens can then be deposited into the ETH/frxETH Curve pool, and users can deposit liquidity pool (LP) tokens on Convex, which could earn rewards paid out in CRV, CVX, and FXS tokens. Alternatively, users can also stake their frxETH into an ERC-4626 vault to mint sfrxETH  (which accrues all staking yield from validators).

Frax Liquid Staking System

Other primitives and staking methods are making their way into the market and being built to work alongside liquid staking. For example, Eigenlayer is pioneering a new primitive called superfluid staking, which reverses the order of liquid staking by modifying the core consensus protocol, thus enabling the staking of liquidity provisioning (LP) tokens through a middleware platform like Eigenlayer.

Read our in-depth analysis on superfluid staking, restaking, and other liquid staking developments in our latest Private report “Restaking: Eigenlayer”.

The percentage of staked ETH currently sits at 15.33%. This is considerably low when compared with other chains like Solana (70.91%), Avalanche (54.30%), and Polkadot (48.89%). A case can be made that token holders are hesitant to lock their ETH tokens given the restrictive lock-up conditions and risks involved. This may easily change once withdrawals are available, which can contribute to a potential uptick in the staking ratio. JPMorgan forecasts the ratio can move towards the 60% average, while Messari projects 30% to 50% to be a more reasonable range.    

Eth Staking Ratio

Read the full report: Liquid Staking Derivatives: Money Legos in DeFi

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