What is Liquid Staking?

Staking is an established mechanism within crypto as one of the most popular algorithms that secure blockchain networks. Proof-of-Stake (PoS) is a well understood concept with the resulting staking rewards being a sustainable source of rewards for users of those networks. Recently, the second largest cryptocurrency by market capitalization, Ethereum, completed its transition from Proof-of-Work (PoW) to PoS. This step represents a major milestone in the blockchain’s journey from the launch of the Beacon Chain on December 1st, 2020, to ”The Merge”, which refers to the original Ethereum Mainnet merging with a separate Proof-of-Stake blockchain called the Beacon Chain on September 15, 2022.  

The next step on Ethereum’s Roadmap, which is planned to come with the “Shanghai Fork”, currently expected in March 2023, is the activation of the technical possibility to unstake Ether (ETH) and move the staked assets.

While these significant developments have taken place on Ethereum’s base layer, an additional concept has evolved to address a particular aspect of PoS: even after all planned blockchain upgrades have been completed, the ETH put into staking will still have an exit period during which the tokens are locked. This is a logical consequence of putting assets ‘at stake’ to allow the network enough time to detect potential adverse behavior and take consequential actions. As a result, a user can stake their ETH and receive rewards, their tokens however remain locked for some time and cannot be used for trading or other activities such as lending. 

The introduction of the liquid staking concept attempts to solve the participation hurdles associated with initial ETH staking – illiquidity, immovability, and inaccessibility – by turning the locked capital into liquid capital. This concept enables the staked position to be ”liquified”, i.e., a receipt token is issued to the user upon depositing ETH into staking. By letting the user immediately exit a staked position (through the sale of the receipt token), they receive access to additional liquidity and a (secondary) market is created. As another source of revenue, the economic value of the staking position can then be used for other purposes, e.g., as collateral in a Decentralized Finance (DeFi) protocol – while still generating rewards for its user.

As the Ethereum Foundation only recently provided an update on its roadmap, including the timing for the Shanghai upgrade and with itinformation about when withdrawals of the staked positions can be expected, multiple such solutions have appeared.

The most prominent and most successful of these solutions by total value staked is Lido, a liquid staking solution enabling users to stake their ETH without locking assets whilst participating in on-chain activities, e.g., DeFi lending. The resulting stETH token represents staked Ether in Lido, allowing users to receive ETH staking rewards while benefiting from other rewards, as stETH tokens are accepted in various DeFi protocols and are tradeable with significant liquidity. Other and more recent solutions such as cbETH from Coinbase have also shown considerable adoption, albeit not comparable to stETH in size. While the enormous growth of stETH can be seen as a compliment to its creators and a validation of the concept, it also raises critical voices as to whether such a centralization is compatible with the security assumptions of the Ethereum blockchain or whether it runs contrary to its fundamental concepts.

With the upcoming Shanghai upgrade, staking solutions on Ethereum are expected to increasingly attract the interest of users. Currently, only approximately 14% of all ETH are staked, with this ratio likely to increase. If liquid staking solutions establish themselves and their tokens can be deployed in many new use cases, the ratio of staked ETH could reach 50% or more. 

As a crypto-native pioneer, Bitcoin Suisse worked closely with what became the Ethereum Foundation since early 2014, with the support of its initial coin offering resulting in the creation of Ethereum. For the successful go-live of Ethereum 2, Bitcoin Suisse clients committed 17% of all ETH needed in November 2020. It is our aim to continue our contribution to solutions being developed on the Ethereum blockchain and to enable our clients’ access to the newest solutions available securely, conveniently, and in a first-mover fashion.

Consequently, we have analyzed the available solutions for liquid staking based on criteria that are relevant in our view. What criteria did we apply and why did Bitcoin Suisse settle on exactly those criteria?

First, the selected solution for liquid staking needs to be built on strong principles along the inherent spirit of the crypto community, the technology and the underlying principles of the industry, rather than aiming to optimize a particular outcome at the expense of important factors, such as stability or security.

Second, and related to the first criterion, the applicable solution should be based on a joint effort of multiple players and participants to avoid the ecosystem becoming restrained in its development due to capital liquidity separating into multiple and distinct, but incompatible pools. A higher level of liquidity, coming from multiple collaborating participants, creates a stronger and faster developing ecosystem than separate initiatives. Therefore, sound governance with transparency and clear roles and responsibilities is required.

Third, as we see a wider adoption of cryptocurrencies taking up and the integration points with the traditional financial system becoming more common, the additional requirements from corporations, institutions and other financial service providers compared to individuals should be considered on a protocol level. These requirements include the principles of Know-Your-Client (KYC) and Anti-Money-Laundering (AML) well known in traditional finance, as well as quality and transparency considerations for the components of the protocol, such as the staking service provisioning.

Besides these three aspects specific to liquid staking Bitcoin Suisse applies its usual diligence criteria including client, partner and protocol due diligence, as well as a regular token review process, based on its Anti Money Laundering (AML) framework.

As a result, with the Liquid Collective, Bitcoin Suisse has identified an initiative and partner who fulfils the above criteria. Liquid Collective is an enterprise-grade liquid staking protocol built and run by a broad and dispersed community of industry participants, which will offer liquid staking on Ethereum with its receipt token, LsETH, representing legal and beneficial ownership of the underlying staked ETH for the user. In its role as integrator, Bitcoin Suisse offers its clients secure and convenient access to the protocol, additional liquidity, increased capital efficiency, safe custody of the LsETH token and the option to withdraw their LsETH tokens to their own wallets. As the ecosystem develops and more use cases for LsETH emerge, Bitcoin Suisse will again evaluate which combinations add most value and integrate them for easy accessibility for its clients.

With the upcoming Shanghai fork in mind, currently anticipated in March 2023, Bitcoin Suisse will look to provide its clients with a range of suitable options resulting from the existing Ethereum staking product enhanced by the features of the Shanghai fork, as well as the liquid staking option through Liquid Collective. As both products have their advantages depending on the client's situation and preferences, it is planned to make both products available.