Ether liquid staking soars past $20bn as upgrade sparks rush for yield

DeFi users flocking to Ether liquid staking tokens pushed deposits to the protocols that issue them past $20 billion.

That’s according to DefiLlama data, which shows the trend in full force since April’s Shapella upgrade.

Driving the move is the perception that staking Ether has become lower risk since Shapella, and increased integration of Ether liquid staking tokens — or LSTs — with existing DeFi protocols.

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“Why hold Ether if you can hold yield-bearing Ether?” Dan, growth lead at Pendle, a DeFi protocol which lets users trade yield on staked Ether, told DL News. “The easy exit from LSTs to native Ether makes holding LSTs a no-brainer,” he said.

This “easy exit” refers to Shapella, which greatly reduced Ether staking risks by allowing withdrawals for the first time since Ether staking started in 2020.

Before Shapella, depositors could not withdraw their Ether from Ethereum’s staking contract. Many DeFi users worried that there could be a liquidity crisis if investors lost confidence in liquid staking tokens, which act as receipts for staked Ether.

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But since Shapella activated withdrawals, such fears have been alleviated, and LST adoption is soaring.

Lido’s stETH, the biggest LST representing $14.6 billion worth of staked Ether, has grown over 28% since staking withdrawals activated in April.

“LSTs are becoming more popular than Ether as collateral in Ethereum DeFi,” Max Shannon, a digital asset analyst at CoinShares, told DL News.

Shannon highlighted that on Aave, the biggest DeFi lending protocol with over $6 billion in deposits, Lido’s stETH has surpassed Ether as the largest collateral asset.

“LST holders can easily trade LSTs, post them as collateral, or take advantage of yield opportunities via lending protocols,” Shannon said.

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Across Ethereum’s DeFi ecosystem, protocols are increasingly swapping out Ether for liquid staking tokens like stETH.

By doing so, protocols can bake the base Ether staking yield — currently around 4% to 5% APY — into their DeFi offerings, increasing potential yields.

“There’s already been a paradigm shift in Ether staking yield as the reference DeFi APY,” TN Lee, co-founder of Pendle, told DL News. “As the number of liquid staked assets continues to grow, so will the demand.”

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But the search for higher yields with LSTs is changing where DeFi users are depositing their funds, Alice Kohn, an Ethereum analyst at Glassnode, told DL News.

Kohn explained that DeFi users are increasingly depositing their LSTs into lending protocols instead of using them to provide liquidity on decentralised exchanges — necessary to ensure DeFi users can easily trade between Ether and its staked versions.

The stETH-ETH Curve Pool has lost 39%, and the wstETH-ETH Pool on Balancer has decreased by 71% since April, Kohn said, citing Glassnode data. Lending protocol Compound’s stETH total value locked increased more than nine-fold during the same period.

According to Kohn, the primary reason for this is the search for higher yields.

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“LSTs can be used as collateral to leverage against Ether,” Kohn said. “This allows LST holders to build up exposure via borrowed leverage and lets them multiply their LST returns.”

What Kohn is describing is “looping” — a popular way to juice yields on assets like-assets, such as stablecoins or staked and unstaked Ether.

DeFi users deposit LSTs, such as stETH, to lending protocols like Aave or Compound and borrow Ether against their deposits. They then stake the Ether through Lido, deposit the stETH they receive, and repeat the process. The result is the rewards from staking Ether multiple times get compounded, pushing yields higher.

But looping staked Ether comes with risks.

If the price of Ether and stETH drifts too far apart, those leveraging it in lending protocols risk liquidation.

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Additionally, because Lido’s stETH is currently the most popular LST for looping, the practice risks centralising a large portion of staked Ether in one place.

Many in DeFi worry that such a situation threatens Ethereum’s decentralisation and could make the network less secure.

While other LST providers such as Rocket Pool and Frax Ether have chipped away at Lido’s dominance in recent months, it is still by far the most dominant liquid staking protocol with a 74% market share.

And according to Shannon, this situation isn’t likely to change anytime soon: “Lido’s stETH will continue to dominate the LST market because of its network effects and integrations of stETH in DeFi.”