Robert Steinadler, 9 months ago

Lido: Liquid staking on Ethereum, Solana, Polkadot, and more

Staking is highly lucrative for many investors. Once the decision is made that a coin is a long-term investment staking adds value by creating additional yield. Since many retail investors lack the capital to run validator nodes most of them are dependent on staking pools or delegating their funds to a validator.

This is a common standard for most cryptocurrencies like Algorand, Cardano, or Polkadot. With Ethereum things are different. The Merge is knocking on the door but it’s not here yet. This creates a very special situation and requires a special solution that interestingly enough can also provide value to stakers on other networks where things are less complicated.

What is Lido?

Lido is organized as a DAO and was born after the Ethereum beacon chain started. Stakers can transfer their Ether into a smart contract effectively locking their ETH until the Merge has commenced and the old Ethereum blockchain unites with the new one.

The basic idea of Lido is to provide stakers with access to Ethereum staking without sacrificing liquidity. Each time a staker sends Ether to Lido he will receive “Staked Ether” (stETH) in return. The stETH token represents the ETH the staker is holding with Lido. Once the Merge has commenced and the Shanghai upgrade has been rolled out, stakers can return stETH for ETH. This is also the reason why the value of stETH is most of the time close to the value of actual Ether. While it is not pegged to the price of Ether, market participants know that they might be able to swap stETH for ETH one day. Therefore, most market participants are unwilling to overpay when buying stETH or selling their stETH way cheaper than the current price for Ethereum.

The whole idea behind Lido is also called liquid staking because now that an investor holds Staked Ether, the tokens still retain value close to the value of ETH and they still can be used with other DeFi applications such as AMMs or lending protocols. Stakers also have the option to sell their stETH at any time on the free market, allowing them to stop staking at any time. Staking rewards with Lido are automatically calculated and any stETH earned through staking is credited to the investor's wallet.

The Lido (LDO) token

Since Lido is a decentralized autonomous organization, there is also a Lido token involved. The token itself has no utility other than representing voting rights in the DAO. The more LDO an investor holds, the more weight he has in a vote.

Votes are usually started with a proposal that includes a suggestion on improving conditions for Lido as a whole. Please keep in mind that the value proposition is different from utility tokens. Since there is no use-case involved holding the token becomes more attractive the more successful Lido as a staking protocol gets. Having the right to vote on the future decision of a valuable protocol is more attractive than the voting rights for an unimportant product. That being said, there are no other tokenomics involved.

Other options to stake with Lido

Lido started offering Ethereum staking but the project expanded its operations beyond the Ethereum blockchain. The following blockchains are supported:

  • Solana staking with stSOL as the token that represents the SOL held in the staking pool
  • Polygon staking with stMATIC as the token that represents the MATIC held in the staking pool
  • Polkadot staking with stDOT as the token that represents the DOT held in the staking pool
  • Kusama staking with stKSM as the token that represents the KSM held in the staking pool

Each network offers a different return with APRs ranging between 3,9 % and 16,5 %. The staking reward is always paid in the respective staked version of the native token. Please note that APRs can change over time and are fluctuating. In return for the service, Lido keeps a 10 % fee from the rewards that are collected through staking. This covers the costs for all the server hardware and the maintenance of the equipment.

While also these networks don’t face the same issue of having effectively two different blockchains like Ethereum, liquid staking is still attractive to many investors. It is easy to swap between the native token and the staked version at any time. Many DeFi applications such as AMMs accept the staked tokens that Lido is issuing. This allows taking part in staking while at the same time enjoying almost the same liquidity using DeFi.

What are the risks of liquid staking?

Unlike staking a cryptocurrency natively on its network, liquid staking with Lido includes several risks that have to be mentioned. The reason why there is risk involved is simple. Liquid staking is based on smart contracts and not solely on the consensus layer of a blockchain. Here are a few exemplary risks that are usually not included when staking:

  • Smart contract risks: A vulnerability in Lidos smart contract could lead to an exploit
  • Vulnerabilities in Ethereum: Security vulnerabilities and bugs are possible post Merge since Ethereum 2.0 is a new technology
  • Slashing: Ethereum’s proof of stake consensus has a mechanism that penalizes malicious validators
  • stETH is not pegged to ETH: The price of stETH can effectively fall below the value of the corresponding Ether that is locked in Lidos smart contract
  • Conspiracy: The members of the Lido DAO are holding the keys to all the tokens that are locked in the smart contract. They used a multi-signature setup to strengthen security. However, if those key holders are conspiring, they could effectively control all funds involved.
  • Proof of Stake fails: There is also the risk that the majority of users will continue the proof of work version of Ethereum and all the staked tokens become worthless.

Please note that this list is not complete but exemplary. Some of the risks are exclusive to Ethereum, while others are also part of staking with Lido on other blockchains.

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