Risk management is rarely included in the crypto entrepreneur’s starter pack. Especially when the markets are booming and crypto entrepreneurs are on a crusade to acquire users and TVL, they tend to prioritize innovative tech and aggressive marketing over sustainability.
But it’s a company’s attitude to risk that dictates whether it’ll thrive after the bull run or whether it’ll be one of the failures that the industry points to as ushering in the next bear market.
Providers in the current restaking space are at this inflection point.
Startups are receiving an influx of real user funds. In June, the Total Value Locked in liquid restaking protocols was $15 billion, up from less than $300 million only a few months before. Ether.fi, the largest liquid staking protocol, has more than $5 billion of TVL across Ethereum and Arbitrum.
The space is growing like crazy. However, only a small portion of total ETH is actually participating, so it’s a market built on weak fundamentals. And without proper risk assessment, startups, along with their users and the industry overall, could crash and burn.
Chasing Restaking Rewards
If staking is the process by which users secure blockchains by locking or lending their digital assets in return for a reward, then restaking is simply staking those digital assets again.
Restaking allows already staked digital assets to be allocated to additional decentralized applications in return for other rewards. Restaking allows blockchains, applications, or services to amass the community and capital necessary to secure their systems, without the community needing to amass a new trove of capital – instead they just use the crypto they already have.
Moving digital assets around to reap the best rewards is known as yield farming or liquidity mining. This new wave of excitement over yield farming restaking protocols was kicked off by EigenLayer’s mainnet launch in April. EigenLayer allows users to restake their ETH and ERC-20s to so-called actively validated services (AVSs) like rollups, oracles, and other applications. In turn, users are rewarded with liquid restaking tokens (LRTs) that may be used to gain additional yield, plus platform points, which measure a user’s contribution to the network. While these points aren’t designed to have value per se, users believe they’ll be tied to future airdrops and have begun speculating on them.
Since then, the ecosystem of restaking providers and services has ballooned rapidly.
Liquid restaking providers, such Ether.Fi, Puffer Finance, Renzo, and Mellow eliminate the technical hurdles of restaking, deposit users’ assets on their behalf from a sleek user interface. These providers are competing aggressively to lure in more liquidity to reach higher levels of total value locked (TVL).
The restaking war is on. And the weapon of choice: more elaborate marketing schemes offering eye-popping rewards.
Earlier this year, Ether.fi and Puffer ran campaigns to dish out extra rewards – in the form of LRTs and points – for users that routed their assets through the platform. And Pendle has fully leaned into the speculative frenzy, announcing on its homepage, “Hop on the Points Express!” and offering 100x points.
The battlefield is a cash cow for crypto users.
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Time-Tested Tumult
Yet this marketing strategy – massive token rewards or the prospect of future token airdrops – is a precarious and unsustainable one.
If history is our guide, these incentives can’t last, and more worrisome still, that realization is only grasped after a huge fallout, leaving many users holding bags that have turned completely metaphorical.
From the ICO boom of 2018 to the initial introduction of yield farming in 2020, crypto users go crazy for an economic game that puts their tokens to work for a hefty potential upside. These restaking protocols allow users to squeeze even more potential rewards out of their digital assets and even more utility out of the infrastructure they’re built on.
The biggest concern in the restaking market is the quality of Actively Validated Services (AVSs) these platforms are redirecting user funds to. To entice more users, restaking providers are incentivized to approach more AVSs, and even accept risky services because of the high rewards offered. But if an AVS breaks blockchain rules and gets penalized, staked user tokens could get confiscated — in crypto this is called slashing.
Currently the slashing mechanism isn’t live yet, so the industry can only theorize how a penalty on one provider could affect all the others that are connected to it.
At this point, as restaking providers weigh the incentive to onboard new users against the effort required to do thorough due diligence on their AVS partners, the crypto industry needs to refocus on risk management.
Another concern with all these staking and restaking systems built on top of each other is the chain reaction fallout of a hack. If even one of these providers gets hacked, billions of dollars could evaporate not only from those services but from the Ethereum network broadly. Aside from the monetary implications, a hack also damages user trust. The whole concept of restaking to provide economic security for a larger landscape of applications could be called into question.
Competition Builds Quality
The restaking wars could do a disservice to the industry overall by enticing users to flood the market with money for projects with shaky fundamentals. But it doesn’t have to be this way. Competition is healthy when the race to build innovative products is matched by the race to secure those products from risk.
As long as companies establish ways to mitigate these risks – even working towards tapering expectations of users who sometimes wildly throw money behind new untested products – the industry should come out stronger because of this competition.
Take for example the competition heating up between EigenLayer and Symbiotic. Shortly after Symbiotic announced it would offer Bitcoin restaking services, EigenLayer expanded its offering to ERC-20s to keep up with the demand for more token options.
Through competition, innovative technology will push the industry forward. But not only that – startups will be incentivized to develop better UX and UI for interacting with the new technology too, making it easier for more users to participate. And more users builds a more robust ecosystem.
The permissionless mechanics of crypto allow exciting products to be built with the help of the decentralized community and for the community to be rewarded in turn. As long as risk management is part of the equation, a healthy restaking ecosystem will deliver real value.
Amadeo Brands is the CEO and Co-Founder of YieldNest, an asset management layer for restaking.
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