Liquid Staking: Diving Into LSD-Fi

Introduction To LSD-Fi

One of the main advantages of liquid staking is being able to stake your ETH, while continuing to maintain liquidity.

Since Liquid staking derivatives (LSDs) issue you a tokenized IOU for your staked assets, it was inevitable for new projects to emerge that let you do things with these IOUs. These projects fall into the “LSD-Fi” basket.

Just like the NFT scene was recently shaken up by NFT-Fi and lending, a wide range of offerings have arrived to the liquid staking scene. And the sector’s already grown to $700M+ TVL.

But even with the recent surge, the potential is still massive. As of August 16, 2023, only ~23% of the total supply of ETH was staked. And of the ETH that is staked, less than 1.5% of it is currently being utilized in LSD-Fiprotocols.

So in our journey, we used the stETH from staking with Lido to explore 2 different protocols, as well as touch on a few others briefly.

What We Have Done So Far

1. Traded Yield On Pendle Finance

Pendle has gotten a lot of attention in the past few months as it was the first protocol to introduce a secondary market to trade yields. This unique concept separates the yield your asset generates from the underlying asset itself, by tokenizing both.

Just like interest rate swaps in finance, this allows users to bet on which yields will perform better over time. It also allows users to hedge against risk, take advantage of price fluctuations and maximize their returns.

We started off by swapping 0.15 of our stETH yield for sfrxETH yield.

• We decided to only swap a small portion of our stETH’s yield because we are just getting familiar with the platform and want to diversify our stETH across several places.
• We decided to swap our yield into sfrxETH because we feel that their yield is going to rise and outperform stETH’s yield over time. We feel this way due to Frax’s unique product suite, which allows them to generate additional yield in DeFi and pass this yield through to liquid stakers.

sfrxETH is a product from Frax Finance, a DeFi flywheel. This means that they cover ground in all areas of DeFi, and use their wide range of offerings to their advantage. Therefore, they have been able to offer some of the highest yield in the LSD sector, which we think will continue to perform well.

2. Deposited Into A Fixed Rate Loan On Pendle

Users can also provide liquidity to Pendle for interest, as well as lock in fixed rate loans on their underlying staked ETH.

So the second thing we did on Pendle was deposit .2 stETH into a fixed rate loan.

This works just like a traditional loan, and contains a maturity date, APY rate and underlying asset. Here’s the position we took:

• Our underlying asset is stETH, which we got for staking our ETH with Lido last week
• Our maturity date is when the loan becomes “fulfilled” and we receive our principal (initial investment) back. The maturity date for this position is not until Dec ‘27, but note that these positions are liquid and can also trade on the open market
• The fixed APY (annual return) we have been given is 3.73%. Not bad when you add that to the yield we are receiving for staking ETH, plus the potential price appreciation of Ether itself

The yield we traded for and this loan will sit in our portfolio just as a normal token would.

3. Got Ready For Eigenlayer

Eigenlayer offers the restaking of ETH and has been one of the most discussed protocols in 2023. Restaking is just what it sounds like: taking staked ETH and staking it again somewhere else.

Restaking provides users the ability to:

• Earn incremental yield on liquid staking derivatives (e.g. stETH)
• Earn incremental yield on natively staked ETH

This incremental yield comes from crypto projects that use EigenLayer to bootstrap their security. Rather than “starting from scratch” to build out their security profiles, projects now have the option to “rent” staked ETH from EigenLayer to secure their networks.

And in return for this “rented” security, these projects will pay fees which will be passed on to restakers. More fees = more yield for restakers

The launch of Eigenlayer has been so popular that deposits have been filled since the day the protocol launched. However, capacity for these staking vaults will be raised and you will be able to deposit again on August 22nd!

Users are able to deposit staked ETH from either Lido, Rocket Pool or Coinbase. So if you are interested in staking, get your staked ETH ready as we expect these vaults to fill quickly.

The Milk Man will be taking some of his stETH to Eigenlayer and telling you all about it in the near future. And don’t worry, we break down Eigenlayer step by step below.

To wrap up LSD-Fi, here are two other interesting protocols you can research on your own:

• Lybra Finance:This protocol allows you to deposit your staked ETH and mint a stablecoin in return (eUSD). Users then earn interest on their eUSD while continuing to reap the upside of holding and staking ETH.
• Unsheth:This protocol diversifies a user’s yield across different LSD’s, with the goal of optimizing yield.

Step By Step Guide To LSD-Fi

Step 1: Using Pendle Finance

When you first arrive at Pendle’s home page, you will be presented with a few options. The first thing that you need to do is connect your wallet and ensure that you are on the right blockchain. This can be found in the top right corner:

Here, you will also find the protocol’s settings as well as a slider that goes between “Earn” and “Trade”. To swap yield on Pendle, we want to start by flipping this slider to “Trade”.

You will then be shown a list of available yields that can be swapped:

The offered yields have varying APYs, loan times and underlying assets. To swap, you simply click on the YT or PT bubbles on the right.

• YT price refers to the yield of the position
• PT price refers to principal token (stETH) separated from the yield

The swap itself looks very similar to using a DEX, shown by our last guide:

The swap quote shows you the conversion rate, value traded and even some details on how your trade will be profitable. Pendle takes it a step further and provides a calculator to help you estimate potential profit based on what future APYs could look like:

These are just estimates, but can help you understand the risk/reward of your swap.

When locking in our fixed rate loan, we switched the top right slider back to “Earn”. This brings us to a dashboard where you are shown the different types of staked ETH that are accepted on Pendle. When we click on stETH, we are taken to this loan screen:

This screen shows us the available loan maturities, their respective APY rates, and the amount that you can expect to redeem the loan for at the maturity date. After choosing the amount to deposit for the loan, you will be able to withdrawal at any time or hold the loan until it matures.

In the meantime, you can track your positions in real time through Pendle’s dashboard!

Step 2: How To Restake With EigenLayer

Since EigenLayer is a protocol for restaking, you will need to have a form of staked ETH ready before getting started. When you get started, you will arrive at this screen:

Here’s what you need to know:

• If you have any ETH being restaked, this and your rewards will reflect in the top bar
• The three assets currently supported are the LSD’s of Lido, Rocket Pool and Coinbase
• TVL indicates how much ETH is locked up for each asset. You can see that all vaults are full with 15,000 ETH each at this time

Once you click on the asset that you are holding (in our case stETH) to be directed to the final screen:

All you need to do is select the amount that you would like to restake, and confirm the transaction in your wallet. You will then be all set restaking and earning additional yield with Eigenlayer!

Considerations Around LSD-Fi

Any time you are able to generate additional yield as an investor, you should be aware that you are taking on additional risks. And any time you engage with DeFi protocols, you are taking on risk as well.

Here are some of the risks to be aware of:

• Smart contract risk:Smart contracts carry their own risks as assets leave your wallet to be stored in them. Smart contracts are targets of hacks, can be incorrectly coded and in general are hard to read for the average investor.
• Regulatory risks:If the SEC has been targeting staking as a service and earn programs in the United States, it’s safe to assume they wouldn’t love the idea of LSD-Fi. How DeFi will be treated in the eyes of regulators is currently the 8th wonder of the world.
• Interest rate risk:Since you are trading yields with LSD-Fi, there is the risk that you will underperform the normal staking yield or even lose money.
• Protocol-specific risks:With any DeFi protocol it is important to realize that crypto is still the Wild West. There are bad actors, hackers out for blood and protocols that mean well, but cut corners.

Next Steps

Now that we have started to immerse ourselves in the world of DeFi, we are ready to take the next step and venture outside of Ethereum. Next week, we will be showing readers how they can bridge their assets to other blockchains, as well as explaining the reasons you may want to do so. We will also follow up with our experience with Eigenlayer, as well as a deeper dive into that protocol. For now, readers can track our wallet on their own through DeBank. Simply go to their site, paste in our wallet address and follow our journey in real time under “portfolio”.

This report is for informational purposes only and should not be relied upon as a basis for investment decisions, nor is it offered or intended to be used as legal, tax, investment, financial or other advice. You should conduct your own research and consult independent counsel on the matters discussed within this report. Part performance of any asset is not indicative of future results.

It should also be noted that the writer(s) of this report may hold assets mentioned in the article at the time of writing.