Rapid growth in DeFi-focused Ethereum liquid staking derivatives platforms raises eyebrows

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Ether’s (ETH) DeFi activ­i­ty has declined in the bear mar­ket and the sec­tor faces fur­ther com­pe­ti­tion from Ethereum’s annu­al stak­ing reward of 4%, accord­ing to Glassnode ana­lysts. How­ev­er, a DeFi nar­ra­tive is build­ing around liq­uid stak­ing deriv­a­tive (LSD) tokens that could revive Ethereum’s net­work activity.

The per­cent­age of gas con­sumed by DeFi pro­to­cols has dropped from 34% in 2020 to 8% to 16% present­ly, with NFTs com­mand­ing the max­i­mum share of 25% to 30%, accord­ing to a recent report from Glassnode.

Ethereum gas usage by trans­ac­tion type. Source: glassnode

Glassnode’s sup­ply-weight­ed price index for DeFi, priced in USD and ETH, record­ed a 90% loss since ear­ly 2021. 

The so-called DeFi “Blue-Chips,” which rep­re­sents a bas­ket of gov­er­nance tokens from well known DeFi pro­to­cols like Uniswap (UNI), Mak­er­DAO (MKR), Aave (AAVE), Com­pound (COMP), Bal­ancer (BAL) and SushiSwap (SUSHI), have lost 88% of their mar­ket cap­i­tal­iza­tion from the all-time highs of $45 bil­lion in May 2021. 

ETH vs DeFi tokens price per­for­mance. Source: glassnode

The DeFi blue chip tokens have under­per­formed ETH dur­ing bull­ish mar­ket ral­lies and expe­ri­enced a more severe drop than ETH “on the down­side dur­ing the bear.” The ana­lysts pre­dict that since stak­ing of ETH now yields 4%, it will act as a “new hur­dle rate over which token returns must jump.” This yield rep­re­sents the bench­mark rate for ether investors.

Cur­rent­ly, lead­ing lend­ing pro­to­cols like Aave and Com­pound offer between 2–3% yields on lend­ing sta­ble­coins and ether. More­over, DeFi pro­to­cols like Aave and Com­pound also come with smart con­tract risk which is elim­i­nat­ed with proof-of-stake (PoS) validators.

Stak­ing has become pop­u­lar among Ethereum investors, espe­cial­ly after the Shapel­la upgrade in April 2023, which enabled redemp­tions from the stak­ing contract.

By the end of May, Ethereum users staked 21.63 mil­lion ETH worth $40.021 bil­lion, rep­re­sent­ing 18% of Ethereum’s total supply.

LSD plat­forms like Lido and Rock­et Pool account for one third of this mas­sive mar­ket. These appli­ca­tions offer tok­enized rep­re­sen­ta­tion of staked ETH, allow­ing investors access to the stak­ing yields with­out com­pro­mis­ing liquidity.

A grow­ing trend among Ethereum investors is inter­act­ing with LSD-fi or LSD finan­cial­iza­tion, which aims to put the liq­uid­i­ty offered by the LSD tokens to use in DeFi applications.

Relat­ed: LSD for DeFi: Tenet, Lay­erZe­ro part­ner to dri­ve cross-chain liq­uid stak­ing adoption

Is LSDfi the solution?

Essen­tial­ly, LSD­fi lever­ages the liq­uid­i­ty of LSD tokens into DeFi like lend­ing pro­to­cols and liq­uid­i­ty on exchanges for high­er yields. Giv­en that a con­sid­er­able amount of ETH is staked with the LSD plat­forms, LSD­fi has the poten­tial to revive DeFi activity.

A Dune ana­lyt­ics dash­board by data ana­lyst Defi­mochi shows the total val­ue locked (TVL) in LSD­fi pro­to­cols has touched $411 mil­lion, ris­ing expo­nen­tial­ly since mid-May. Some of the pop­u­lar names in the sec­tor are Pen­dle Finance, Lybra Finance, Curve Finance and Alchemix Protocol.

LSD­fi total val­ue locked. Source: Dune

The liq­uid­i­ty of LSD tokens on Curve Finance, the largest sta­ble­coin exchange in the mar­ket, has sur­passed $1.5 bil­lion. Curve also enabled mint­ing of its over-col­lat­er­al­ized sta­ble­coin crvUSD using Frax Protocol’s staked-ETH token sfrx­ETH as collateral.

Rel­a­tive­ly new pro­to­cols like Lybra Finance and Pen­dle Finance which are look­ing to lever­age the liq­uid­i­ty pro­vid­ed by LSD tokens have also become popular.

As it has hap­pened before with DeFi, new­er appli­ca­tions will like­ly tap the liq­uid­i­ty of LSD tokens by facil­i­tat­ing liq­uid­i­ty min­ing of their gov­er­nance tokens for ear­ly depositors.

While these can bring decent gains for some users, these pro­to­cols could car­ry smart con­tract risks and the chance of get­ting rug pulled, intro­duc­ing the risks that come with the high­er gains that LSD­fi provides.

This arti­cle does not con­tain invest­ment advice or rec­om­men­da­tions. Every invest­ment and trad­ing move involves risk, and read­ers should con­duct their own research when mak­ing a decision. 

This arti­cle is for gen­er­al infor­ma­tion pur­pos­es and is not intend­ed to be and should not be tak­en as legal or invest­ment advice. The views, thoughts, and opin­ions expressed here are the author’s alone and do not nec­es­sar­i­ly reflect or rep­re­sent the views and opin­ions of Cointelegraph. 

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