The Ethereum network's Shanghai upgrade in mid-April 2023 introduced the long-awaited functionality for stakers to withdraw their staked ETH. Contrary to expectations of a mass exit, this event catalyzed a significant influx of new deposits, highlighting robust investor confidence. A particularly notable trend within this movement has been the pronounced preference for Liquid Staking Tokens (LSTs), which provide stakers with liquidity and flexibility previously unavailable.
This shift is reshaping the Ethereum staking landscape and its integration within the broader DeFi ecosystem, revealing new strategies and capital allocation patterns.
Key Market Performance Dynamics
The digital asset market has been significantly influenced by a wave of spot Bitcoin ETF applications. While Bitcoin's performance has been standout, the market's reaction to Ethereum-related news has been more nuanced. Following BlackRock's ETF application, Ethereum's price initially surged by 11.2%. However, by the end of the second quarter, ETH closed a mere 6.4% above its April opening price.
From a relative perspective, 2023 has seen many digital assets underperform against Bitcoin. The ETH/BTC ratio even declined to a 50-week low of 0.060. A recent recovery to 0.063, however, suggests a potential resurgence of strength for Ethereum heading into the latter half of the year.
Interestingly, the positive price action for ETH has not translated into a substantial increase in on-chain network activity. The average gas price, a key indicator of blockchain space demand, has remained relatively low. For comparison, gas prices surged by 78% ahead of the April Shanghai upgrade, whereas the recent ETF-fueled rally saw a more modest 28% increase.
The Influx of New Staking Deposits
The Shanghai hard fork removed a major barrier to entry for Ethereum staking by enabling withdrawals. Rather than triggering an exodus, this new flexibility instilled greater confidence, leading to a sustained wave of new staking deposits.
On June 2nd, staking activity peaked with over 13,595 new deposit transactions, representing more than 400,000 ETH staked. This surge is even more striking when contrasted with deposits to exchanges, which have remained consistently around 30,000 transactions per day throughout the same period.
A clear divergence emerged post-Shanghai: the volume of newly staked ETH has consistently met or exceeded the volume of ETH flowing into exchanges. This indicates a strong preference for putting capital to work within the protocol's security model rather than holding it on trading platforms.
A deeper analysis of these daily deposits reveals a decisive market preference for liquid staking providers, with Lido leading the charge.
Lido's Market Dominance and User Behavior
The demand for Liquid Staking Tokens (LSTs) is undeniable. These tokens act as redeemable receipts for ETH staked in a pool, abstracting away the technical complexities of staking for the end-user.
Lido solidified its offering with the V2 update on May 15th, which enabled node operators to process withdrawals. This allowed stETH holders to redeem their tokens for ETH directly. Following this update, 400,000 stETH (worth approximately $721 million at the time) was redeemed, causing a temporary contraction in the stETH supply. This was quickly overshadowed, however, by a massive wave of new ETH deposits, pushing the total stETH supply to a new all-time high of 7.49 million tokens.
Lido's dominance is stark when compared to its competitors; its supply is 16 times larger than that of its nearest rival, Rocket Pool. It is worth noting, however, that Rocket Pool's rETH has grown at three times the rate of Lido's stETH since the start of the year.
This growth in stETH demand is not being driven by new users. While protocols like Rocket Pool and Frax saw noticeable growth in new token holders after Shanghai, the number of new daily stETH holders has remained flat, fluctuating between 230 and 590 addresses—a trend consistent all year.
This suggests that the new deposits flooding into Lido are primarily from existing holders increasing their exposure. This is corroborated by data on the average token holder balance. After Lido enabled withdrawals, the average stETH balance dropped to 46.1 stETH (approx. $83k). Since the Shanghai upgrade, this average has climbed to 51.0 stETH (approx. $100k), confirming that existing participants are doubling down on their staked ETH positions rather than a new cohort of users entering the market.
The Migration of LSTs Within DeFi
A core value proposition of LSTs is their composability within the decentralized finance (DeFi) ecosystem. Holders can trade their tokens on decentralized exchanges (DEXs), use them as collateral in lending protocols, or farm additional yield.
Lido's stETH, in particular, benefits from immense network effects and deep integration across DeFi. However, a significant recalibration of how these tokens are used is underway, with capital moving from one DeFi primitive to another.
Since the Shanghai upgrade, the stETH-ETH Curve pool—historically the largest source of liquidity for Lido's derivative—has seen its Total Value Locked (TVL) decline by 39%. It is now approaching the lows seen after the severe de-leveraging event following the Terra-Luna collapse in May 2022.
This trend is even more pronounced in Balancer's wstETH-ETH pool. Since April 15th, its TVL has plummeted by 71%, falling from $351.2 million to $101.4 million.
The declining attractiveness of providing liquidity in these pools is reflected in their falling Annual Percentage Rates (APR). Using April 15th as a reference point, the APR for the Curve stETH-ETH pool has fallen from 3.47% to 2.27%. The Balancer pool hit a low of 1.69% in April before recovering slightly to 2.10%.
The changing reward structures, including the conclusion of Lido's LDO token rewards program for Curve liquidity providers on June 1st, play a role but do not fully explain the consistent, sustained drain of liquidity.
A more structural shift is likely at play. With direct redemptions now available via Lido, the fundamental need to trade stETH for ETH on a DEX has diminished. Users can simply mint or redeem tokens directly with the protocol, reducing arbitrage opportunities and trading volume in these pools. Furthermore, increased regulatory scrutiny in the U.S. may have prompted some major market makers to reduce their activities, exacerbating the trend.
The capital leaving DEX pools appears to be finding a new home in lending protocols. LSTs are increasingly being used as highly attractive collateral for loans. Platforms like Aave and Compound allow users to deposit stETH or wstETH to borrow other assets, potentially enabling leveraged staking positions that can amplify yields.
Aave's TVL has grown considerably, especially in its V3 wstETH lending pool. Since its launch in late January 2023, the wstETH pool has grown to hold over $734.9 million, complementing the existing V2 stETH pool, which holds around $1.79 billion.
Similarly, Compound V3's wstETH pool has seen explosive growth since its introduction earlier this year, now holding over $42.2 million in stETH—an increase of 817% since May 9th alone. Yield-bearing staking derivatives are becoming a preferred form of collateral over plain ETH or even stablecoins.
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Summary and Conclusion
The successful implementation of Ethereum's Shanghai upgrade unlocked a new era of flexibility for stakers. Instead of a withdrawal rush, the market responded with a deposit surge, demonstrating strong confidence in the network's future.
Within this staking renaissance, liquid staking tokens have emerged as the preferred vehicle, and Lido has cemented its position as the dominant market leader. The evolution doesn't stop at issuance; a significant migration of capital is occurring within DeFi. Capital is flowing out of DEX liquidity pools and into lending protocols, where LSTs are used as collateral.
This suggests that sophisticated investors are moving beyond simple staking and are actively employing strategies to maximize their yield. Using LSTs as collateral to take on leverage allows them to increase their exposure and potentially amplify returns, indicating a maturing and more financially complex staking ecosystem.
Frequently Asked Questions
What is liquid staking?
Liquid staking allows users to stake their cryptocurrencies to help secure a proof-of-stake blockchain while receiving a liquid, tradable token in return. This token represents their staked asset and accrued rewards, enabling them to participate in other DeFi activities without locking up their capital.
Why did staking increase after withdrawals were enabled?
The ability to withdraw removed a significant perceived risk for stakers—the fear of indefinite lock-ups. This increased confidence and made staking a more attractive and flexible option, leading to a surge of new deposits from investors who were previously hesitant.
What is the difference between stETH and rETH?
Both stETH (Lido) and rETH (Rocket Pool) are liquid staking tokens for Ethereum. The primary differences lie in the underlying protocol, decentralization model (Rocket Pool uses a more decentralized operator set), fee structures, and the level of integration they have across various DeFi applications.
Why is liquidity moving from DEX pools to lending protocols?
With direct minting and redeeming available from providers like Lido, the need to trade LSTs on DEXs has decreased. Meanwhile, lending protocols now accept these LSTs as collateral, allowing users to pursue leveraged staking strategies for potentially higher yields, making them a more attractive place to deploy capital.
Is liquid staking safe?
Liquid staking introduces smart contract risk (the code governing the protocol could have vulnerabilities) and custodial risk (depending on the provider's design). It's crucial to use well-audited, time-tested, and reputable protocols. Always conduct your own research before depositing funds.
Can you lose money with liquid staking?
Yes, potential risks include the value of the underlying asset (ETH) declining, smart contract exploits, de-pegging of the liquid staking token from its underlying value, and potential slashing penalties applied to the validator node that your stake is delegated to (though reputable providers often have insurance funds for this).