In the previous blogs, we have already explored how staking - in its native form - is complex and requires technical expertise. While staking pools help, they come with the added risk of stake centralization. And that is why we need liquid staking, as it helps in diversifying stake across multiple validators (these validators are chosen by governance) and provides a fully fungible and tradable synthetic derivative.
This derivative is as good as the staked capital and can be utilized across multiple DeFi protocols to compound the overall yield. We contend that this, along with two other major factors, makes for strong bull cases for liquid staking in the future. Let’s explore them here.
Liquid staking reduces the barrier to entry in PoS
The cost of securing any decentralized blockchain is accrued to the participating validators/miners. In the case of PoW, this cost is too high as for monolithic chains like Bitcoin, you need specialized hardware. Add to this the maintenance costs of the infrastructure and the costs of maintaining a team that can help sustain high uptime. This cost can only be borne by mining pools/companies with the requisite economic resources to deploy. As these companies spend more on the hardware, their hashpower increases, making them likelier to receive more rewards.
In the case of PoS, this cost is effectively reduced as you do not need to run a validator node yourself to stake in the network. You can simply delegate your tokens to a validator (who has the technical set-up) and start earning rewards. Alternatively, you can even spin up your own validator node if you have the technical expertise and requisite resources. However, this reduction is only relative as the minimum amount required to stake in a PoS chain can deter retail investors. In the case of Ethereum, for example, you need 32 ETH to participate. And this is where liquid staking reduces this barrier and makes it possible for anyone to stake - as users can stake as little as they desire to as much as they have the capacity for. This is especially useful in the case of modular blockchains like Ethereum PoS where as the number of validators on the network increase, the strength of each shard increases as well - thereby making the entire network much more resilient.
Liquid staking helps compound net yield
The liquid-staked derivative token you get for staking your assets can be utilized across supported DeFi protocols to earn additional yield. Let’s understand this through an example. Let’s say you stake a PoS asset X for 5% APY. With ClayStack, you get csX, which is the liquid-staked token of that asset. You can then use it in a DeFi lending platform and borrow another stablecoin. The yield from staking rewards is now accruing in this liquid-staked token, csX. All this while you are able to utilize the stablecoin to farm for another, say, 4% on another platform. Your net yield is thus compounded.
And what if you wanted access to those assets almost instantly? Then you could simply return the stablecoins you borrowed with the interest rate, get your csX back and then burn it get your X back. Ideally, this would take anywhere between a few days to a few weeks, but with ClayStack’s Flash Exit, this barely takes seconds!
Liquid staking rewards are market-independent
Let’s assume an extreme scenario where the DeFi protocol where you have deposited your csX tokens starts giving out minimal returns because of the prevailing market. Let’s suppose those yields come down to 1% from 4%. But because you are getting 5% from staking rewards, you will be accruing a net yield of 6%. This is because the staking rewards accrue regardless of the prevailing market conditions. Our founder Mohak has analyzed various DeFi protocols (such as lending/borrowing, AMMs, and more) and attempted to explore why these protocols give unsustainable yields in a series of blogs. You can read them here.
That said, whenever you stake your asset, your assets are exposed to primarily two types of risks:
- smart contract risk
- native asset’s volatility risk
Add to this the fact that unstaking your assets (or withdrawing them from the network) can be too time-taking a process - often known as the unbonding period. This unbonding period dictates how soon you can unstake your assets from the network. Since your staked assets are not earning any capital during this period, they get stuck in limbo. And this is where staking becomes - what we often call sticky. This further emphasizes the need for liquid staking. You see, with liquid staking, you have the ability to get in and out of staking almost instantly - provided there is sufficient liquidity.
Thus, the market-independent reliability of staking rewards and the opportunity to utilize the same capital to generate additional yield make very strong cases for liquid staking. That said, we understand there are challenges to liquid staking, too, such as one player dominating the market and thus leading to stake centralization. Mohak and the team will be sharing more insights into how that can be solved in future articles.
ClayStack is a liquid staking protocol that offers tradeable value-accruing liquid-staked tokens for every token that you deposit. To learn more about how ClayStack works and how the protocol is on a mission to help maximize capital efficiency for its users, check out claystack.com.