After Shapella, a new dawn for ETH yield products

Ethereum’s Shapella upgrade earlier this period was the culmination of a astir decade-long effort to displacement to proof-of-stake (PoS). The upgrade, which enables withdrawals of staked ETH, followed the motorboat of the Beacon Chain successful November 2020 and the Merge past September, erstwhile the proof-of-work concatenation was yet laid to rest.

In 2019 and 2020, DeFi blossomed connected Ethereum, with plain aged vanilla ETH supplying much than fractional of TVL during those 2 years. ETH holders could lone gain output by lending oregon LPing connected an AMM. Ethereum’s displacement to PoS past created caller opportunities to gain output with ETH. 

Soon aft the motorboat of the Beacon Chain, we started to spot a preview of specified output opportunities, successful the signifier of liquid staking derivatives (LSDs) - though immoderate are trying to rebrand to LSTs (liquid staking tokens). Specific examples see Lido’s stETH, Coinbase’s cbETH, and Rocketpool’s rETH, each of which let entree to ETH staking output by simply holding a token. LSDs person grown consistently implicit the past 2 years – irrespective of the terms of ETH – and their popularity is acceptable to accelerate present that withdrawals person been enabled by Shapella. 

Yet these tokens are conscionable the start. The much-anticipated EigenLayer, which enables ETH restaking to gain further yield, launched connected testnet earlier this month. The protocol could drastically little the outgo of gathering analyzable applications connected Ethereum. And it mightiness besides usher successful a caller epoch of ETH staking tokens, which would redefine the halfway basal of assets for DeFi protocols.

There’s already high-profile backing of this thought of an ETH-staking-token era. At the MEVnomics.wtf online acme past month, Gauntlet laminitis Tarun Chitra laid retired a compelling vision:

“There volition inevitably beryllium immoderate conception of ETF-ization, wherever radical volition privation antithetic classes of ETH yield. There volition be:

• The astir precocious people ETH output that is conscionable axenic staking.

• Slightly riskier [and higher] ETH yield, which is staking positive submitting oracle updates.

• Slightly higher risky mentation [of ETH yield] with information availability positive oracle updates.

I tin ideate radical fractionalizing [for] what level of ETH [yield] hazard bash you want.”

This aboriginal assumes the wide adoption of Eigenlayer’s ETH restaking protocol. EigenLayer would alteration Ethereum validators to supply different infrastructure services successful instrumentality for further rewards. EigenLayer does not alteration the tokenization of these further rewards, but neither does Ethereum for staked ETH (and that didn’t halt the LSD marketplace from forming). A deeper investigation of the LSD marketplace (as follows) volition assistance exemplify however the emergence of restaking products – oregon the ETF-ization of ETH output arsenic Tarun calls it ​​– volition play out. 

When DeFi arrived arsenic a meme and a marketplace successful 2019, determination were 3 wide marketplace segments: lending, DEXs and stablecoins. LSDs person cemented themselves arsenic the 4th large marketplace successful the DeFi space.

Lido (stETH) raced to an aboriginal pb and has not looked back. It onboarded dozens of well-known validator companies and past focused connected DeFi integrations. It besides launched a Curve unchangeable excavation and showered it with LDO token incentives to physique on-chain liquidity. Throughout 2021 and aboriginal 2022, this beardown on-chain liquidity helped stETH support a 1:1 peg with ETH, contempt the information that stETH tin lone beryllium redeemed for ETH done Lido aft withdrawals are enabled (expected adjacent month).

Once on-chain liquidity was established, Lido past moved to integrate stETH into lending protocols. Aave besides added it arsenic collateral successful February 2022. This led to a popular recursive borrowing strategy: proviso stETH arsenic collateral, get ETH against the stETH, bargain stETH with borrowed ETH. Rinse and repeat. This became a large leveraged ETH-staking strategy, but ran into problems successful the days of marketplace volatility during the Terra and 3AC collapse, erstwhile stETH depegged from ETH.

• Coinbase has the 2nd largest LSD, cbETH, mirroring its 2nd spot successful the stablecoin marketplace with USDC. cbETH launched successful October 2022 with the vantage of being capable to pull the ample swath of retail and organization investors that custody ETH connected Coinbase. Just arsenic its fiat onramp makes it a large subordinate successful the stablecoin market, the aforesaid is existent for LSDs. It besides charges the highest fees (25% connected output earned). Coinbase’s biggest interest is regulation. It’s hard to ideate Mr. Gensler ignoring a token that promises yield, fixed the existent aggravated scrutiny connected Coinbase. But regularisation isn’t Coinbase’s lone problem. It’s acceptable tosee much contention successful the speech lane, with Binance announcing conscionable this week that it’s entering the LSD market.

• Rocket Pool is the astir decentralized of the large LSDs. It’s besides the oldest, with roots dating backmost to 2016. Importantly, being a Rocketpool node relation is permissionless. With the release of its Atlas upgrade past week, node operators lone request 8 ETH to articulation the protocol, giving them tegument successful the crippled (in summation to needing to involvement RPL). The remaining 24 ETH comes from purchases of rETH, Rocket Pool's LSD. 

• Frax launched its LSD (sfrxETH) past November. It’s reasonably centralized, but intends to displacement to a exemplary akin to Rocket Pool successful the future. Frax has carved retired marketplace stock with effectual liquidity mining strategies, arsenic good arsenic by integrating into its Frax Lend product.

There are astatine slightest a fractional twelve smaller LSDs (Stakewise, Ankr, Stakehound, etc.) looking to carve retired a niche successful the increasing market. It volition beryllium hard to connection thing caller for vanilla LSDs, but EigenLayer and ETH restaking correspond an accidental to triumph marketplace share.

EigenLayer was founded by Sreeram Kannan, a prof astatine the University of Washington and manager of the UW Blockchain Lab. Over the past fewer months, EigenLayer has been cited by Vitalik and different halfway Ethereum developers arsenic a solution to Ethereum’s thorniest problems. It besides conscionable announced a monolithic $50m Series A fundraising, led by Blockchain Capital.

Bridget Harris, a pupil astatine Stanford, explains the entreaty of restaking well:

“Often, developers person to take betwixt innovating extracurricular of Ethereum – and not being capable to leverage its validator acceptable – versus gathering connected the EVM but having to adhere to the supra constraints…These projects request actively validated services (“AVS”) successful bid to execute due validation. However, gathering an AVS comes with important restraints.

EigenLayer proposes a solution to these issues by applying the information Ethereum’s validator acceptable provides to these modules: successful their words, pooled information via restaking and free-market governance.”

Rather than bootstrapping a network, EigenLayer would enlistee Ethereum validators to tally further services for circumstantial applications. The cardinal is leveraging the ETH staked down the validators to guarantee that they execute the tasks they’re receiving awards for. To participate, validators indispensable delegate their ETH staking withdrawal code to EigenLayer. This would alteration the slashing of a validator’s ETH if it doesn’t enactment according to the circumstantial conditions it agreed to, arsenic approved by EigenLayer governance.

Through this model, EigenLayer could enactment arsenic a “staging web for Ethereum”, investigating retired caller features earlier implementing successful the halfway protocol. It could besides align validators to instrumentality MEV smoothing, oregon redistribution of MEV profits, by slashing immoderate validator that tries to instrumentality much than its just share. 

Ultimately, the halfway premise of EigenLayer is the inducement for ETH holders to question a higher yield.

In its whitepaper, EigenLayer explicitly states that it is not enshrining LSDs into the halfway protocol.. 

Still, we tin spot the penning connected the wall. It volition beryllium much hard to make tokenized versions of output earned from ETH restaking. LSDs are each packaging the aforesaid underlying output from Ethereum protocol rewards, though they person introduced further returns from moving MEV-boost. EigenLayer envisions hundreds of antithetic output opportunities for ETH validators to partake in. Making these fungible volition surely beryllium a challenge.

We judge that liquid restaking derivatives (LRDs?) volition instrumentality the aforesaid signifier arsenic the existent harvest of LSDs. EigenLayer is designed to judge LSD tokens themselves, truthful an capitalist could involvement stETH oregon cbETH wrong EigenLayer and past delegate to a validator that is moving a work with higher rewards. This is simply a bully mode of integrating with the existing strategy and validator set, but wouldn’t springiness capable fungibility and liquidity to interact with DeFi. A caller token that captures the further output is needed.

For aspiring liquid restaking derivatives (okay, tokens), the astir important happening is to physique astir a halfway work that is overmuch needed by Ethereum applications: 1 that is unafraid and tin connection precocious rewards. After this, the absorption should beryllium connected however the LSD marketplace archetypal formed. The elemental look (pioneered by Lido) is:

Step 1. Recruit a fig of apical staking companies to service arsenic trusted validators.

Step 2. Launch a token that captures the output and physique on-chain liquidity done Curve oregon Balancer (Aura besides helps).

Step 3. Ensure the token is accepted arsenic collateral connected large lending platforms.

This mightiness not look that complicated, but the progressively hostile regulatory situation astir tokens with output is definite to muddle the playbook.

• WBTC proviso connected Ethereum has declined by implicit 50% Link

• Delphi Labs proposes BORG, a caller model for cryptolaw entities Link

• Gearbox releases v3 Link

• a16z launched Magi, an rust lawsuit for the Optimism rollup stack Link

• Bancor launches caller DEX Carbon Link

• ETH Tokyo winners Link

• Ameen announces Hai, a multi-collateral RAI fork connected Optimism Link

• 0x reveals caller suite of integrated APIs Link

• A speedy defence of integer substrate agnosticism [JP Koning/Moneyness]

• SUAVE, Anoma, shared sequencers, & ace builders [Jon Charbonneau/dba]

• Seeing similar a protocol [Barnabé Monnot]

• Moneyness successful the integer property [Brendan Malone/Paradigm]

• Interview with a searcher 2.0 [Dean Eigenman, Anish Agnihotri, Hasu, Michael Ippolito/Bell Curve Podcast]

• Declining Ethereum DEX dominance, Uniswap V3 licence expiry [Chase Devens/Messari]

• Integrated searcher-builders who get backstage bid travel risking insider trading [AI N]

That’s it! Feedback appreciated. Just deed reply. Written successful NYC, large to beryllium backmost but privation the upwind was much spring.

Dose of DeFi is written by Chris Powers, with assistance from Denis Suslov and Financial Content Lab. All contented is for informational purposes and is not intended arsenic concern advice.