More than $18 billion in cryptocurrencies have been transferred to a new type of platform that offers investors rewards in exchange for locking up their tokens, in a complex system that analysts say presents a risk for users and the cryptocurrency market.
The surge in popularity of so-called “re-staking” is the latest sign of risk-taking in cryptocurrency markets as prices rally and traders the search for yield. Bitcoin, the largest cryptocurrency, is near its all-time highs, while ether, the second-largest cryptocurrency, is up more than 60% this year.
Seattle-based start-up EigenLayer is at the heart of this re-staking boom. The company, which raised $100 million from the crypto arm of US venture capital firm Andreessen Horowitz in February, has attracted cryptocurrencies worth $18.8 billion to its platform, compared to less than $400 million six months ago.
EigenLayer invented re-staking to expand a long-standing crypto practice called staking, its founder Sreeram Kannan told Reuters.
Blockchains are a kind of database that involves many computers on a network verifying and confirming who owns which cryptocurrencies. To do this, owners of crypto tokens, such as ether, allow their assets to be blocked as part of the validation process. Holders lose instant access to their tokens as long as they participate in the stake, but they get a return in return.
Some staking platforms also give users newly created cryptocurrencies to represent the cryptocurrencies they have staked. Re-staking allows owners to take these new tokens and stake them again on different programs and blockchain-based applications in the hope of achieving greater returns.
The crypto world is divided over how risky re-staking is, with some insiders believing the practice is too new to be known about.
But others, including analysts, fear that if the new tokens representing re-staked cryptocurrencies are used as collateral in crypto’s vast lending markets, there could be endless loops of based borrowing. on a small number of underlying assets. It could destabilize broader crypto markets if everyone tried to exit simultaneously, they say.
Adam Morgan McCarthy, research analyst at cryptocurrency data provider Kaiko, said: “When there’s something that has collateral on collateral, it’s not ideal, it adds a new element of risk that did not exist.
The appeal for investors lies in yield: yields for staking on the Ethereum blockchain are typically between 3% and 5%, but analysts say yields could be higher for re-staking, as investors can obtain several yields at once.
Re-staking is the latest development in the risky world of decentralized finance, or DeFi, in which holders of cryptocurrencies invest in experimental projects in the hope of generating significant returns on their holdings without having to sell them.
The EigenLayer platform is not yet able to pay rewards directly to users, as the necessary mechanism has not yet been developed. Users join the platform expecting future rewards or other gifts known as airdrops.
For now, EigenLayer is distributing its own newly created token to users of the platform. Users hope that this token, called “EIGEN”, will have some value in the future.
Kaiko’s Morgan McCarthy said the growth of re-staking platforms was fueled by users seeking such airdrops, calling them “really, really speculative, this free money thing.”
“It’s very risky,” said David Duong, head of research at US cryptocurrency exchange Coinbase, which offers staking but not re-staking.
“They are acting preemptively right now, (in) the hope of being rewarded with something, but they don’t know what,” Mr Duong said.
ENTER EIGENLAYER
EigenLayer was launched last year by Sreeram Kannan, a former assistant professor at the University of Washington in Seattle and a member of the team that launched the first student-designed microsatellite in India, according to his academic website.
EigenLayer describes itself as a marketplace for validation services, connecting potential stakers with applications that need staked tokens.
New re-staking platforms have emerged, including EtherFi, Renzo and Kelp DAO, which re-store clients’ tokens on EigenLayer for them and generate new tokens to represent these re-staked assets. These tokens can be used elsewhere, for example as collateral for a loan.
Kannan said his platform’s goal was to allow users to choose where to place their tokens and help new blockchain services grow, not to encourage more crypto-backed borrowing. -currencies.
We do not have official relations with these actors… This is an emerging phenomenon, he said.
Coinbases Duong says re-staking could come with hidden risks – if re-staking tokens are used in crypto lending, there could be forced liquidations and greater volatility during market downturns, a- he wrote in a note.
The fall in crypto markets in 2022 was exacerbated by high-risk lending, with crypto tokens used as collateral rapidly losing their value following the collapse of Terra and Luna tokens.
Kannan protects EigenLayer from risk.
“The risk is not in the repositioning, but rather in the lending protocols. The lending protocols misjudge the risk,” he said.
Some experts aren’t worried about re-staking, noting that the money in re-staking protocols is tiny compared to the $2.5 trillion in net assets of the global cryptocurrency industry.
Regulators have long been concerned about losses in the world of cryptocurrencies spilling over into broader financial markets.
For now, we do not see a significant risk of restaking issues contagion to traditional financial markets, said Andrew ONeill, head of digital assets analytics at S&P Global Ratings.
However, the world of cryptocurrencies is increasingly connected to traditional finance, and re-staking is attracting institutional investors.
Zodia Custody, Standard Chartered’s cryptocurrency subsidiary, has seen significant institutional interest in staking, but considers re-staking a step too far because it is difficult to establish a paper trail of destination assets and how rewards are distributed, said Anoosh Arevshatian, chief risk officer.
Nomuras’ crypto arm, Laser Digital, has partnered with Kelp DAO to re-store some of its funds, Kelp DAO said in an April blog post. Laser Digital did not respond to a Reuters request for comment.
Swiss cryptocurrency bank Sygnum said it was staking its clients’ crypto assets and expected a new ecosystem around re-staking to emerge.
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