On April 12th, the Ethereum mainnet underwent the “Shapella upgrade”. The previously upgraded validator tokens will be unlocked, greatly increasing the liquidity of Ethereum. According to statistics, on April 10th, the total amount of ETH staked on the Ethereum chain had exceeded 18.03 million, an increase of 31.98% compared to the time of Ethereum’s merger.

Due to the bear market in the second half of 2022, users tend to seek more stable and secure yield products. Among them, Liquid Staking Derivatives (LSD) have performed well, providing unique solutions to traditional staking-related issues. LSD allows users to stake ETH through a joint staking mechanism, receive corresponding tokens as proof, and obtain future staking rewards. Currently, the largest LSD in terms of scale is stETH of the Lido protocol.

1. Four Staking Solutions for Ethereum

There are currently four ways to participate in Ethereum liquidity staking, with LSD referred to as “joint staking” in the official Ethereum documentation. ChainAegis has compared these four staking solutions as follows:

1.1 Solo Staking

Solo staking refers to running an Ethereum node connected to the internet and depositing 32 ETH to activate a validator, allowing it to directly participate in network consensus. Users can receive maximum rewards and have complete control over their assets directly from the protocol, which can better guarantee security. However, users cannot withdraw their staked ETH in the short term until the Ethereum network upgrades to Shanghai.

1.2 Staking as a Service (SaaS)

Staking as a Service (SaaS) is a type of staking service where users deposit 32 ETH for validators, but delegate the node operation to a third-party operator without requiring hardware equipment. This process usually involves the user uploading their signing keys to the operator, allowing the service provider to perform validation on behalf of the user. Similar to solo staking, users cannot withdraw their staked ETH for a short period until the Ethereum network upgrades.

1.3 Liquid Staking Derivatives (LSD)

Activating a set of validator keys requires 32 ETH, and it is difficult for those who hold a small amount of ETH to meet this requirement before the Ethereum network upgrade. Since the protocol itself does not support collaborative functionality, a separate solution is required to meet this demand, and LSD stands out at this point. LSD staking has the following three characteristics:

(1) Reward is obtained by staking any amount of ETH in collaboration with others, making it easy for beginners to get started.

(2) The hardware part is skipped, and validator operations are delegated to a third party.

(3) Liquid tokens representing the user’s staked ETH and validator reward shares are saved in the user’s wallet.

Overall, LSD staking does not require 32 ETH and eliminates the need to worry about hardware and node maintenance. By providing one or more liquid tokens to represent the user’s staked ETH and validator rewards, these tokens can be traded on the secondary market, and highly liquid tokens act as if the user’s ETH has not been staked, thereby capturing a large number of users and assets in a short period of time, ultimately forming a competitive market.

LSD’s business logic covers three roles: ETH Stakers, Pools, and Node Operators. Users deposit ETH into a Pool, and LSD provides the collected ETH to Node Operators for staking, and users need to allocate a portion of their profits to the LSD protocol and Node Operators. In the process of Node Operators performing validation work, validator private keys are required to complete the validation, but if the validator’s private keys are directly handed over to the nodes, various risks of malfeasance are likely to occur, hence DVT shared validators such as SSV Network and Obol Network that fragment validator private keys have also gradually developed.

1.4 Centralized Exchange Staking

Users can obtain staking rewards through staking services provided by centralized exchanges such as Coinbase, and staking can be rolled back, enabling users to earn rewards with minimal time and effort. In this process, users also do not require 32 ETH and basic hardware equipment, making it the easiest option. However, since centralized providers pool a large amount of ETH to run a large number of validators, this creates a huge centralized target and increases the risk of attack, while also increasing regulatory scrutiny and risks.

1.5 Comparison of Current ETH Staked Amounts for the Four Solutions

The above four Ethereum staking solutions have staked a large amount of ETH, and ChainAegis has compiled the following statistics on the amount of ETH staked by each solution.

As of now, LSD is the most popular staking method, accounting for 37% of the total share with over 6.7 million ETH staked. Centralized exchange staking accounts for over 20% of the share, with 3.7 million ETH staked. Staking as a Service (SaaS) has a slightly smaller share at 12.6%, with around 2.3 million ETH staked. Other types of staking account for 29.9% of the share, including standalone staking and staking addresses of unknown types.

Based on the weekly ETH staking volume on Ethereum, LSD shows periodic concentration in distribution, occurring in July to September 2021, March to May 2022, and after the Ethereum merge. The staking volume of CEX has significantly decreased after 2022. Staking-as-a-Service is distributed relatively evenly and has not shown significant fluctuations. Other types of staking had a relatively large share in early 2021, but decreased overall towards the end of 2021 before the Ethereum merge. After the Ethereum upgrade, there was a significant increase in volume, and it is distributed evenly over time.

2. On-chain performance of top projects in LSD

2.1 Top 4 Rankings

According to the amount of ETH staked, the top four projects in the LSD race are Lido, Rocket Pool, Rrax Ether, and StakeWise.

Lido holds a 73.99% market share in the LSD market, with nearly 6 million ETH staked, accounting for 32.88% of the total ETH staked and ranking first. Coinbase’s cbETH holds a market share of 14.84%, ranking second, with a total staked amount of 1.19 million.

2.2 Top 4 Protocol Comparison

Lido is one of the liquidity solutions for ETH 2.0 staking. By staking any amount of ETH on Lido, users will receive stETH tokens in a 1:1 ratio and daily staking rewards based on their stETH holdings. LDO is the native governance token of Lido, allowing stakeholders to participate in community governance through staking and voting.

Rocket Pool enables permissionless validation and allows any node operator to participate in network validation. However, to unlock this feature, validators must provide 16 ETH and create a built-in reduction protection mechanism to safeguard user assets.

Frax Ether is a liquid ETH staking derivative that aims to maximize staking rewards using the Frax Finance ecosystem. Frax innovates two revenue distribution mechanisms. One is to stake ETH to obtain frxETH, but users cannot earn staking rewards. frxETH holders can choose to stake frxETH and become frxETH/ETH pool LPs, earning transaction fees and CRV. The other is to stake frxETH to obtain sfrxETH and earn staking rewards.

StakeWise V3 offers enhanced slashing protection through over-collateralization and a better slashing protection mechanism. It also allows validators to join with low capital.

ChainAegis conducted a horizontal comparison of the above projects based on TVL, APR, advantages, and disadvantages as follows:

Lido is the leading protocol with a TVL of $11.2 billion and obvious economies of scale, but its staking users are dominated by whales. Rocket Pool operates on a crowdsourcing model and has a more complete DeFi system, but its APR is low at only 4.46% and has a high fee structure. Relatively, Frax and StakeWise have less liquidity with a total value locked (TVL) of less than $250 million each, but they both have unique features. Frax has the highest APR among the top projects, at 7.4%, while StakeWise operates very stably and its unique slashing protection mechanism also attracts some users.

The above is the market growth rate changes of Frax, Lido, and Rocket Pool since 2023. Lido has shown a very strong performance, with almost no negative growth and multiple significant growths. Frax had a high growth rate in January but has been declining since late February, with overall poor performance. Rocket Pool had a good performance in early January but lacked momentum afterward.

3. The impact of Shanghai’s upgrade on LSD

3.1 Facilitating the increase of TVL for lending and derivatives agreements

LSD provides a unique solution to the problem of Ethereum collateral being inaccessible after being pledged, through the issuance of tokens or derivatives. This has increased the amount of collateral activity in the DeFi market and solved a major challenge for users. In addition to earning rewards for collateral, users can also earn profits by trading lsdETH on the secondary market, further promoting the development of lending and derivative agreements. Taking stETH issued by Lido as an example:

Nearly 50% of stETH has flowed into the DeFi sector, with AAVE accounting for 27.3% and Curve accounting for 13.6%. These tokens are mainly used for wrapping into wstETH, collateral, and mining.

3.2 Promoting the increase of DEX trading volume

After the Ethereum Shanghai upgrade, DEX is the most important exit channel for LSD. lsdETH and ETH can be roughly regarded as a trading pair, with low market-making risks and considerable returns. DEX can obtain revenue from the LSD trading pool, and the increase in LSD increment will further drive up the TVL and trading volume of DEX. LSD’s competition for liquidity will promote the development of DEX, as seen in the collaboration between Convex and Frax. Frax can affect the yield of Curve LP by regulating the reward intensity of Convex.

3.3 Promoting the development of DVT and other technologies

In LSD, we mentioned that there is a risk of malicious behavior if the verification private key is directly handed over to the node. Therefore, Distributed Validator Technology (DVT) was born. DVT splits the validator’s private key into multiple pieces and disperses them to multiple nodes. The verification work is jointly completed by multiple node operators. Single node operators are also not authorized to independently complete signature verification, thus reducing the risk of node malfeasance and solving the problem of single point of failure. Currently, there are mainly two solutions on the market: SSV and Obol.

SSV (ssv.network) uses Secret Shared Validator technology for encryption. It splits the validator’s key into 4 KeyShares among non-trusted nodes. If one KeyShare goes down or fails, the other three can still operate that node, solving the centralization problem of the validator’s key. As a result, the Ethereum network becomes more decentralized. Obol (obol.tech) is a trust-minimized staking ecosystem that focuses on extending consensus by providing permissionless access to distributed validators. It allows users to create, test, run, and coordinate distributed validators, creating a distributed validation cluster that allows different validators to be pooled together as a single entity for staking. Single stakers who join the cluster do not need to worry about single-point downtime, making the normal operation of validators more competitive and maximizing the reduction of centralization risks of malicious behavior.

3.4 Risk Warning

While liquidity provisioning and derivative products offer many benefits, they also come with risks, the most common being economic loss due to liquidation. The penalty mechanism regulates and checks improper behavior through validators. If such behavior occurs, users may lose a certain proportion of validator tokens. Additionally, if the smart contracts of these derivatives have vulnerabilities, they can be exploited by hackers, resulting in significant losses.

About SharkTeam

Our vision is to improve security globally. We believe that by building this security barrier, we can significantly improve lives around the world.SharkTeam composes of members with many years of cyber security experiences and blockchain, team members are based in Suzhou, Beijing, Nanjing and Silicon Valley, proficient in the underlying theories of blockchain and smart contracts, and we provide comprehensive services including threat modeling, smart contract auditing, emergency response, etc. SharkTeam has established strategic and long-term cooperations with key players in many areas of the blockchain ecosystem, such as Polkadot, Moonbeam, Polygon, OKC, Huobi Global, imToken, ChainIDE, and more.

Twitter：https://twitter.com/sharkteamorg

Discord：https://discord.gg/jGH9xXCjDZ

Telegram：https://t.me/sharkteamorg

web：https://www.sharkteam.org/

For more information on blockchain security consulting and analysis, you can visit their website at https://m.chainaegis.com.