Lido: The Kingmaker of ETH Liquid Staking Derivatives

Lido is a liquid staking derivatives (LSD) protocol that currently supports Solana, Terra, Polygon, Kusama, and Ethereum. The platform has amassed over $8.31 billion in TVL and has dominated the ETH market in particular. The protocol generates revenue by charging a 10% fee on all staking rewards generated on deposited assets. Half of this take rate goes to Lido’s node operators on a stake-weighted basis, and the other half accrues to the LDO governed treasury.

Less sophisticated ETH holders find Lido’s liquid staking solution for earning staking income superior to the complexity and responsibility of running a validator. Additionally, staking tokens such as stETH and stSOL that represent a user’s deposit and staking rewards can be bought and sold at will, a huge advantage over the current indefinite lockup when staking directly.

Lido’s Dominance on Ethereum

Lido’s network of validators currently controls 32.48% of all ETH staked on Ethereum’s Beacon chain consensus layer. As a result, there are concerns that Lido’s dominance will pose centralization risks to Ethereum post Merge. While it could be argued that the emergence of competing protocols will reduce Ethereum’s reliance on Lido over time, ETH staking may prove to be a winner-takes-most market. Rocket Pool, the second-largest LSD protocol on Ethereum, saw its market share top out at 5.6% before settling at 4.3% as of May 10, 2022. Lido, on the other hand, holds a 90.3% market share.

This problem may worsen following the Merge due to the expected increase in staking yields (resulting in more staking demand) as well as an ever-growing validator queue to enter the active set. While in the queue, validators escrow their 32 ETH without accruing any block rewards, MEV, or tips. This may push would-be independent validators to various LSD solutions, and likely whichever derivative has the deepest liquidity.

The reason the LSD market is a “winner-takes-most” scenario is two-fold: Deep liquidity for the staking derivative paired with its native counterpart strengthens the derivative’s peg, and deep liquidity across dApps for the derivative ensures utility for users. Lido has a head start with dApp integrations on Aave, Curve, 1inch, MakerDAO, and more, while the ETH/stETH pool on Curve has amassed $1.7 billion of TVL. Even with the recent stress on UST and other pegged assets, the ETH/stETH price ratio is close to 1:1. Maintaining a near 1:1 ratio reduces the probability of liquidations for users leveraging stETH as collateral against an outstanding loan. As displayed by the chart below, stETH has become the clear leader in maintaining its peg to ETH.