Understanding Liquid Staking For Your Benefit
Allow me to quickly say that I nearly backed out of the writing cohort this week. Why? I was so busy with marketing responsibilitiesđđ.
But you know what? I said, Not todayđ€, and got back to it.
Thank you for reading my last entry on Zero Knowledge Proofs, Iâm so grateful.
However, I have 2 more weeks till I can say Ciao to this writing cohort.
And this time, Iâll talk about Liquid Staking.
The first time I heard about staking, yield farming and liquidity provision, was in a defi class in 2021 and they kept confusing me.
So, today, Iâll start by laying the foundations and explaining the terms so you can be carried along when I talk about Liquid Staking.
Understanding the Basics
If youâre new to DeFi, I recommend reading this article from Shiga Digital. Now, letâs explainâŠ
â What is Yield Farming?
Yield farming is a way to earn interest on your cryptocurrency holdings by lending them to others.
You can do this on a decentralized exchange (DEX), which is a platform that allows users to trade cryptocurrencies without the need for a middleman e.g. Pancakeswap.
To yield farm, you first need to deposit your cryptocurrency into a lending pool. Once your cryptocurrency is in the pool, you will start earning interest.
The interest rate is determined by the supply and demand of the cryptocurrency.
Quick Illustration: If you had 100 ETH and you wanted to earn interest on it. You could decide to yield farm ETH on a DEX. You deposit your ETH into a lending pool and start earning interest. Assuming the interest rate is 10% per year, you will earn 10 ETH per year.
â What is Staking?
Staking is a way to earn rewards by helping to secure a cryptocurrency network.
When you stake cryptocurrency, you are essentially locking it up for some time. In return, you earn rewards.
The rewards are paid out in cryptocurrency, typically the same cryptocurrency that you are staking.
For example, if you had 100 ETH and you wanted to stake it. You choose to stake your ETH on the Ethereum network. You lock up your ETH for one year. In return, you earn rewards in ETH. The rewards are paid out every day.
There are different kinds of staking, they include Self staking, Exchange staking, Locked staking, and Liquid staking.
â What is Liquidity Provision?
Liquidity provision is a way to earn rewards by providing liquidity to a decentralized exchange (DEX).
When you provide liquidity to a DEX, you are essentially depositing cryptocurrency into a pool that other users can trade from. In return, you earn rewards.
The rewards are paid out in cryptocurrency, typically the same cryptocurrency that you are providing liquidity for.
Letâs simplify it: If you had 100 ETH and 100 DAI. And you wanted to provide liquidity to a DEX that allows users to trade ETH and DAI. You deposit your ETH and DAI into the DEXâs liquidity pool. In return, you earn rewards in ETH and DAI. The rewards are paid out every day.
Finally, with these fire alarms out of the way, letâs go into liquid staking.
What is Liquid Staking and Why Should You Care?
Liquid staking is the new kid on the block. It is a way to stake your crypto assets while still being able to access them. This is in contrast to traditional staking, where your assets are locked up for some time.
Liquid staking works by using a smart contract to create a derivative token that represents your staked assets.
This derivative form is usually pegged with a different emblem to identify it, for example, stETH for staked ETH, or mSol for Marinade Staked SOL.
This derivative token can then be used in other DeFi protocols, such as lending and borrowing platforms, to generate yield.
You can stake any amount of an asset and unstake it without affecting your initial deposit.
When you stake your crypto, you are issued a tokenized version of your assets, which has the same value as the original asset and operates one-to-one with it.
If youâre not paying attention here, Iâd like to inform you that youâre playing with a $19.1 billion market (at the time of writing); thatâs over 550,000 bitcoins. Back to business.
There are many analyses claiming that Liquid staking protocols will likely dominate DeFi in the coming bull run đ
And if youâd like to take advantage, well, I have two options for youâŠ
How To Liquid Stake Your Assets
- Stake your crypto using liquid staking protocols like Lido, Frax Finance, or Rocket Pool.
To liquid stake your assets, you will need to:
- Choose a liquid staking protocol. There are many different liquid staking protocols available, so it is important to do your research and choose one that is reputable and trustworthy.
- Deposit your assets into the protocol. Once you have chosen a protocol, you will need to deposit your assets into it. The protocol will then stake your assets on the blockchain and issue you liquid staking tokens (LSTs).
- Use your LSTs. LSTs can be used in a variety of ways, such as:
- Earn yield: LSTs can be deposited into other DeFi protocols to earn yield.
- Trade: LSTs can be traded on exchanges.
- Spend: LSTs can be used to purchase goods and services from merchants who accept them.
To unstake your assets, you will simply need to redeem your LSTs from the protocol. The protocol will then return your staked assets to you.
2. Alternatively, buy the tokens of these protocols and hold for the bull run. I call this the easy way outđ . And if youâre anything like me, this is your option.
What Benefits do You Get From Liquid Staking
This new kind of staking offers many advantages over the traditional staking you know, including:
- Liquidity: Liquid staking platforms provide you with liquid tokens that represent your staked assets. These tokens can be traded, used in DeFi protocols, or even sold. This gives you more flexibility with your staked assets.
- Accessibility: Liquid staking platforms make staking more accessible to users by lowering the minimum staking requirements and eliminating the need to run a validator node.
- Rewards: Liquid staking platforms typically offer similar rewards to traditional staking but with the added benefit of liquidity.
Is it Possible to Liquid Stake Other Cryptos Besides Ethereum?
Yes, liquid staking is not limited to Ethereum. It can be used with any Proof of Stake (PoS) blockchain that allows for staking. Some popular liquid staking platforms support a wide range of PoS blockchains, including:
- Ethereum
- Solana
- Polygon
- Fantom
- NEAR Protocol
It is important to note that each liquid staking platform may have its own list of supported blockchains, so it is important to check before using one.
Are There Cons of Liquid Staking?
Honest answer, Yes. And here are a few of them:
- Risk of De-pegging: Liquid staking tokens (LSTs) are pegged to the value of the underlying asset, but there is always a risk that the peg could break. This could happen if there is a sudden sell-off of LSTs, or if the liquidity pool backing the LSTs is hacked.
- Complexity: Liquid staking is a relatively new technology, and it can be complex to understand. You need to carefully research the different liquid staking protocols and understand the risks involved before depositing your funds.
- Fees: Liquid staking protocols typically charge fees for their services. These fees can vary depending on the protocol and the asset being staked.
- Counterparty risk: When you liquid-stake your crypto, you are essentially trusting a third-party protocol(smart contract) with your funds. If the protocol is hacked or mismanaged, you could lose your money.
Conclusion
If you are considering liquid staking, it is important to weigh the pros and cons carefully and make sure that it is right for you.
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