As Ethereum starts its multiyear transition to a full "staking" network, cryptocurrency analysts say one consequence could be a reduction in liquidity for the blockchain's native tokens. That means ether speculators might have to lean more heavily into derivatives markets.
What's Hot: Low yields on traditional investments are driving interest in bitcoin futures, and lawmakers hope to avoid crypto holders paying too much tax on proof-of-stake holdings.
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Ethereum’s biggest-ever upgrade is supposed to make the blockchain network faster and more efficient. But the new “staking” system could lock up so many of the network’s native ether tokens that investors who want to trade them may have to rely on derivatives markets.
The blockchain, the world's second-biggest, currently uses a validating mechanism similar to larger Bitcoin’s known as “proof of work,” where new data blocks and transactions are confirmed via power-hungry computers solving complex cryptographic puzzles.
Under Ethereum's multi-year upgrade now underway, the network would shift to a “proof of stake” model, where investors validate transactions by staking ether on the blockchain in exchange for token rewards. It's a bit like depositing dollars into a bank account for interest, paid out in dollars.
A possible consequence, though, is that the new staking system could soak up as much as 30% of the ether tokens in circulation, based on estimates from Adam Cochran, a partner at MetaCartel Ventures, a decentralized investment firm. An address needs to stake at least 32 ether tokens, worth about $12,400 at the current price, to become a validator in the proof-of-stake model.
“It's possible to see a future scenario where the incentive to keep assets locked up on-chain is so great as to remove some liquidity from the market,” says Diogo Monica, co-founder and president of the digital-asset custodian Anchorage, told CoinDesk in an email.
‘Removing some liquidity from the market’
In May, a survey by the Ethereum developer Consensys found that 65% of ether investors were planning to stake the cryptocurrency under the new system, known as Ethereum 2.0, and half of those wanted to run validator nodes.
Most staking mechanisms have a lock-up period. Rocket Pool Staking, an Ethereum 2.0 staking service, offers staking terms ranging from three months to a year.
Some ether tokens might get locked in staking as the network upgrade proceeds. Ethereum 2.0 is being rolled out in three phases of what could end up being a multiyear process, with the original proof-of-work blockchain running in parallel until the two networks are merged at “Phase 1.5.”
Wilson Withiam, a research analyst at the cryptocurrency data firm Messari, told CoinDesk that “ethers sent to the deposit contract will likely remain locked up” until Phase 1.5, and “that could cause a decline in the amount of ether readily available.”
A future staking derivatives market?
Cryptocurrency analysts say ether-staking yields of 3% to 5% would be so tantalizing – at a time when government bonds carry near-zero or even negative yields – that few investors would opt to leave their tokens in Uniswap or other decentralized trading systems where they could be accessed by traders.
“In that case, people will have an incentive to create ways to buy and sell ether shares that abstract whether the underlying asset is currently being staked,” Monica said. Derivatives might be a solution.
Ether futures, open contracts. (Skew)
Fixed income from staking could even be packaged as a distinct product. Holders who stake their coins could create voucher tokens representing a claim on the stake. Then they could trade the tokens for ether or other cryptocurrencies. So buyers could capture the yield without having to own the underlying asset.
As an alternative to selling voucher tokens, holders could deposit ether as collateral on decentralized lending and borrowing platforms.
Messari’s Withiam says he thinks staking derivatives are inevitable.
“It will give traders access to tradable assets so that they can continue to do what they do best,” Withiam said. “Exchanges will be able to offer new markets around these assets and potentially lock customers within their product suite if the synthetic assets aren’t transferable outside of the exchange.”
For now, all this really just amounts to speculation over how speculators will want to speculate on ether.
But there's no lack of motivation: Plenty of cryptocurrency analysts say it’s possible ether’s price could jump as demand increases for tokens to stake. Ether's price has tripled this year to about $390. Such returns far exceed bitcoin's 56% gain on the year.
“Financial incentive to buy and hold both increases the security of the network, and could lead to dramatic price appreciation,” said Connor Abendschien, an analyst at the research firm Digital Assets Data.
Ethereum's year-to-date returns, versus bitcoin. (TradingView)
– Omkar Godbole, Markets Reporter
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CoinDesk Research's 22-page report covers the long-awaited Ethereum 2.0, from its technology and development road map to potential market impact as the foundational upgrade to the world's largest smart contract platform. Ethereum developers present commentary about the benefits and risks this new technology may bring.
Trend: Bitcoin is demonstrating signs of life with an over 2% rise on Wednesday after a lacklustre day yesterday.
The cryptocurrency is looking to establish a strong foothold above $11,400, having failed to keep gains above that level in the previous two trading days. If it succeeds, stronger buying interest may emerge, pushing prices to the psychological hurdle of $12,000 – last put to test on July 27.
However, if the buyers again fail to absorb selling pressure above $10,400, a re-test of the daily chart support at around $10,900 may be seen.
The bearish scenario looks likely with a declining awesome oscillator, an indicator used to gauge trends, as well as falling volume on a rising price. That type of volume analysis generally leads to small sell-offs resulting from a lack of buyer demand.
The overall bias will remain bullish as long as prices are held above the former hurdle-turned-support at $10,500 (February high).
– Sebastian Sinclair, Reporter; Omkar Godbole, Markets Reporter
Disclaimer: The information presented in this message is intended as a news item that provides a brief summary of various events and developments that affect, or that might in the future affect, the value of one or more of the cryptocurrencies described above. The information contained in this message, and any information liked through the items contained herein, is not intended to provide sufficient information to form the basis for an investment decision. The information presented herein is accurate only as of its date, and it was not prepared by a research analyst or other investment professional. You should seek additional information regarding the merits and risks of investing in any cryptocurrency before deciding to purchase or sell any such instruments.
Ethereum's year-to-date returns, versus bitcoin. (TradingView)
Ethereum’s Transition to Staking Could Push More Traders to Use Derivatives