MakerDAO Welcomes Liquid Staked ETH (stETH) to the Ethereum DeFi Ecosystem
One of the most powerful features in the Ethereum ecosystem doesn’t get a whole lot of attention, and that’s Liquid Staked ETH (stETH). When you stake ETH towards ETH2, which we’ll discuss later below, that ETH is locked for the long term, meaning you cannot put it into circulation. By staking your ETH through Lido Protocol, you are given a token, stETH, in return, which you can use in many ways that are similar to ETH. A recent development has a major player in decentralized finance (DeFi) and one of the first protocols in the DeFi space, MakerDAO, to be more inclusive of stETH. This will allow for greater utility of the token in ways that weren’t possible before. Let’s dive into some fundamentals so you can better understand the value of stETH, and then we’ll look at how MakerDAO’s involvement dramatically improves the DeFi ecosystem.
What is stETH, and Why is it Important?
Ethereum is moving from a Proof-of-Work (PoW) protocol to Proof-of-stake (PoS). What this means is that Ethereum is moving from a system that relies on powerful processing to one that relies on consensus. They’re ditching the big and powerful machines for community resolution.
Pretty powerful in a whole different way, don’t you think?
This doesn’t come without its shortcomings. For an ecosystem as large as Ethereum, moving from PoW to PoS is not a matter of turning the power off, making some changes, and then turning it back on. The process will be painstakingly slow, as a sort of new Ethereum blockchain is created to support PoS in order to merge and relieve the current iteration under PoW. And for that, they need validators.
Validators are computers that talk to each other, compare notes about transactions, and agree with each other if the notes check out. When most of the validators agree, the transactions in question are approved on the blockchain. These transactions come with funds attached to compensate the validators for their work. So transactions come through, validators agree, the transactions are approved, and the validators get paid. Pretty simple, right?
Now, anyone can run a validator, provided they meet the following requirements:
- 32 ETH deposited to the ETH2 contract
- a powerful enough computer, and
- an internet connection
However, there are some caveats. The ETH you stake to run your validator cannot be removed until after the merge is complete. For many people, locking away 32 ETH — approximately just over $120,000US at the time of this writing — which some may consider illogical, as that ETH can be used elsewhere to earn yield. Furthermore, you must also have some technical and developer knowledge in order to operate your validator.
This suggests a high barrier of entry to operate a validator in general. And it would be, if not for Lido Protocol who has developed a way to provide access to participate in the future of Ethereum, and Maker Protocol that in turn makes it possible to play in the DeFi ecosystem. Together, they create a foundation upon which you may build your Money Lego monolith.
Lido is a protocol that makes it possible to crowdsource the ETH required to run a validator. You take some ETH, deposit it into Lido, and you’re given stETH in return on a 1:1 basis. Lido takes your ETH, stakes it in a validator and puts that validator to work. Lido collects a share of the rewards that validator earns and distributes those rewards to anyone who’s staked ETH with their system. Your stETH is rebased every night and your cut of the rewards is added to your stETH in the form of more stETH. But remember, stETH is worth ETH on a 1:1 basis.
There are some powerful realities to consider here. The fact that absolutely anyone with electricity and an internet connection can participate in the development of the Ethereum blockchain is huge. You’re not blocked out by cost. Whether you have .1 ETH or 10, you can contribute toward a validator and earn rewards as transactions are added to the blockchain. The stETH you gain in return are both tangible and symbolic of your participation in a developing system.
This is fantastic! But it gets better.
From the Lido blog: “This rebase works across integrated DeFi platforms like Curve and Yearn. This means that if you are to stake your stETH across these protocols to earn additional yields, you will continue to benefit from daily stETH staking rewards as well. UniSwap, 1inch and SushiSwap are not designed for rebasable tokens and as a result you risk losing out on a portion of your daily staking rewards through providing stETH as liquidity across these platforms.”
This means you can take your stETH and deposit it with Curve into an stETH-ETH liquidity pool to earn additional rewards. When you deposit your stETH with Curve, you’re given CurveLP-stETH-ETH tokens in return, which mark a claim on your part of the pool and the rewards available to you for having provided liquidity. Because of the integrated nature of Curve, you’ll continue to receive rewards on your stETH, as it is rebased, and you’ll receive rewards on the liquidity you provided with Curve.
But wait, there’s more!
MakerDAO is an open-source project on the Ethereum blockchain and a Decentralized Autonomous Organization (DAO) created in 2014. The project is run and managed by members who hold MKR tokens, and also manage the Maker Protocol. Maker Protocol itself provides the means for users to generate Dai, a stablecoin pegged 1:1 to the US dollar. By opening and depositing collateral in a Maker Vault, you can borrow a percentage of Dai against your holdings, which then become discretionary finances.
Maker Protocol was one of the first “money legos” in decentralized finance (DeFi). Beginning in 2017, Dai was made available for generation, introducing a means to reduce volatility in DeFi. At the time, Maker Protocol was built to accept ETH as collateral. ETH, and only ETH. As a result, Dai generated during this period is known as “Single-Collateral Dai,” or Sai. One single cryptocurrency used to generate another. This changed in 2019, when MakerDAO flipped the switch on Multi-Collateral Dai (MCD). Maker Protocol “now accepts as collateral any Ethereum-based asset that has been approved by MKR holders.”
Why is Dai so Important?
Dai has come to play a vital role in the DeFi ecosystem. Depositing Dai into a smart contract introduces greater stability to that contract. This is one reason why high percentage interest rates are attached to Dai deposits. From the white paper: “Dai is designed to minimize price volatility. A decentralized, unbiased, collateral-backed cryptocurrency that is soft-pegged to the US Dollar, Dai’s value is in its stability.” The short end of this is the massive potential to earn high yield on your Dai, passively.
Multi-Collateral Dai and the Changing Ethereum Ecosystem
On the one hand, you can participate in Ethereum’s transition from PoW to PoS, and you can earn rewards while doing so. On the other hand, Maker Protocol’s transition to MCD means you can use any approved Ethereum-based asset to generate Dai.
Remember those CurveLP-stETH-ETH tokens you were given as a result of depositing your stETH with Curve?
As of a recent governance poll, CurveLP-stETH-ETH tokens are an approved Ethereum-based asset that can be used as collateral to generate Dai. From the top: you deposit ETH with Lido and receive stETH in return; you deposit that stETH into a Curve stETH-ETH pool and receive CurveLP-stETH-ETH in return; you open a Maker Vault, deposit your CurveLP-stETH-ETH, and borrow Dai against it; and once you have Dai in hand (or, rather, in wallet), you can further participate in DeFi in a variety of ways.
MakerDAO has made it possible for just about anyone to participate in DeFi and maximize their returns. And they did this by flowing with the changing Ethereum ecosystem. Your stETH continues to rebase every night and grow as your rewards accumulate, thus compounding the rewards you earn in the Curve liquidity pool. You may withdraw your rewards and deposit them back into the pool, receiving more CurveLP-stETH-ETH tokens. You may then turn around and deposit these in your Maker Vault, allowing for the generation of more Dai. And you can do this over and over and over again. In this way, this process allows for compounding yield. Maker whitelisting stETH is a major runway for defi money legos:
- Staking ETH with Lido returns the liquid token stETH
- Deposit stETH in your Maker Vault creating more Dai
- Dai can then be used for a myriad of purposes (such as to stake, swap, borrow against, or sell)
MakerDAO has been making moves since the early days of DeFi, doing their part to assist in the democratization of finance. In combining their system in use with a number of other protocols, it’s possible to compound interest in a variety of ways, all at the same time, with little to no interaction from you. With a strong foundation of DeFi building blocks that include Lido, Curve, and Maker Protocol, you can build any kind of monolith you want from the Dai that’s generated at the top of the foundation. The possibilities are innumerable, and they continue to grow. Just like your Ultra Sound money.
This post does not contain financial advice, only educational information. By reading this article, you agree and affirm the above, as well as that you are not being solicited to make a financial decision, and that you in no way are receiving any fiduciary projection, promise, or tacit inference of your ability to achieve financial gains. You also affirm that the sole purpose of reading this article is for expanding your educational awareness and nothing more. Be also aware that leverage puts your funds at risk of liquidation at any time. Be sure you understand the risks of leveraged trading before proceeding.