What is stETH (STETH) | What is STETH token

Introducing Lido

In the next few weeks, Ethereum is expected to launch ETH 2.0 and begin the transition to proof of stake (PoS) as discussed in the original Ethereum whitepaper.

PoS networks are not new. Although Tezos and Cosmos are amongst the 100s of networks that are secured by PoS today, when Ethereum’s transition is complete, it will be the largest PoS network by a significant margin.

Ethereum’s PoS launch raises some additional interesting issues:

1. Early stakers will lock their ETH until transactions are enabled on ETH 2.0, which could be a few months or several years.
2. ETH cannot be moved/traded or used as collateral when a user is staking ETH — in other words, staked ETH is illiquid.
3. Users can only stake multiples of 32 ETH.

Early staking commitment

When ETH 2.0 launches it will be a multi-phase rollout. Staking will launch quite early, but the state transitions — including transfers — will not be launched until later phases of the ETH 2.0 transition. Without transactions enabled, it will be impossible to move, trade or spend ETH that has been staked.

Practically, this means that any ETH staked on ETH 2.0 early in the rollout will be locked and unmoveable for a period of time — possibly even up to 2 or 3 years.

This may deter participation in staking on ETH 2.0 given that users sacrifice the ability to use, sell, trade or do anything else with their ETH for that period of time.

Illiquidity

During the period mentioned above, staked ETH will be non-transferable and illiquid.

Even after transactions are enabled on ETH 2.0 and it becomes possible to unstake ETH, ETH that is staked will remain illiquid for the period of time it is staked.

This presents an interesting dilemma — adversarial incentives between securing the network through staking and participating in DeFi are introduced. Users will have to choose between the rewards offered from staking or the yield offered from DeFi protocols.

This has been best described by Tarun from Gauntlet in his research on competitive equilibria between staking and on-chain lending and Haseeb from Dragonfly in his commentary on the paper.

Staking 32 ETH multiples

Finally, some users may face an additional issue with the requirement to stake multiples of 32 ETH.

At the time of this post, a user would need to stake no less than $11,744.32 in order to participate in securing the Ethereum network under ETH 2.0.

People that own 5 ETH and want to participate in staking will not be able to do so alone. Equally, people who own 45 ETH will only be able to stake 32 ETH from their holding.

So… why Lido?

Lido is a staking solution for ETH 2.0 built to solve these problems and backed by several industry-leading staking providers. It makes staked ETH liquid and allows participation with any amount of ETH.

When using Lido to stake your ETH on the Ethereum beacon chain, users will receive a token (stETH), which represents their ETH on the Ethereum beacon chain on a 1:1 basis. It effectively acts as a bridge bringing ETH 2.0’s staking rewards to ETH 1.0.

As a user’s staked ETH generates staking rewards from ETH 2.0, the user’s ETH balance on the beacon chain will increase. stETH balances will update correspondingly once per day allowing you to access on ETH 1.0 the value of your staking rewards received on ETH 2.0.

Users can use stETH in all of the same ways that they can use ETH: sell it, spend it and, since it is compatible to be used in DeFi, use it as collateral for on-chain lending. When transactions are enabled on ETH 2.0, users can also redeem stETH for ETH.

We believe that stETH will be an important base primitive in DeFi, and a foundational building block for the Ethereum money-lego stack.

Lido is intended to remove the adversarial incentives of ETH 2.0 by allowing users to stake their ETH while simultaneously participating in on-chain lending with stETH, thus providing them access to additional yield from other protocols and producing a more secure ETH network.

How Lido Works

Lido DAO is a community that builds liquid staking service for Ethereum. Lido allows users to earn staking rewards without locking assets or maintaining staking infrastructure. Staking with Lido is primed to start along with Phase 0 of Ethereum 2.0.

Upon depositing ether into Lido’s smart contracts, a user receives stETH (staked ETH) ERC20 tokens that represent the user’s staked ETH balance of beacon chain along with staking rewards accrued or penalties inflicted on validators in the beacon chain. When transactions are enabled on the beacon chain - which does not yet have a target date but is estimated to be over 18 months away - users will be able to redeem stETH for unstaked ether together with accumulated rewards directly. Until then, stETH can be transferred or traded, unlike beacon chain ether.

Lido has a lot of moving parts by necessity so the system, along with design goals and constraints, are described below in simple terms.

Design goals and constraints

Staking during the first stages of Ethereum 2.0 means accepting the risk that your ETH will be frozen until transfers are available in Ethereum 2.0 (Phase 1.5 or Phase 2), which is expected to happen next year at the earliest. Until that time, no one will be able to withdraw staked ether or staking rewards and, for example, sell them on an exchange.

To validate the beacon chain, a staker needs to deposit 32 ethers, specify a validating public key, and specify a withdrawal address where the staker’s assets and rewards will stay frozen until transfers are enabled. Until then, the only two activities you can do on the beacon chain are to validate and to stop validating. During this time, stakers must run the validation infrastructure, facing the risk of having their stake reduced in the case of misconfiguration.

There is a risk of loss or loss of rewards, which occurs if the validator is slashed for misbehaving. This can happen, for example, due to a bug in the validator’s node code or due to connectivity issues. This risk makes Ethereum staking especially unattractive in Phases 0 and 1, when the staker has, for a middling reward, to bear market risk while being unable to unstake.

Lido aims to allow users to stake ether without losing the ability to trade or otherwise use their tokens. Lido will be a decentralized infrastructure for issuing a liquid token that has a degree of flexibility compared to self-staking.

The primary goals of Lido are:

• To allow users to earn staking rewards without fully locking their capital;
• To offer flexibility to users to earn rewards on deposits smaller than 32 ether, and without restriction on deposits different than a multiple of 32 ether;
• To reduce the risks of losing a staked deposit due to software failures or malicious third-parties;
• To provide the stETH token as a building block for other applications and protocols (e.g., as collateral in lending or other trading DeFi solutions);
• To provide an alternative to exchange staking, self-staking, and other semi-custodial and decentralized protocols.

Lido is designed as a simple-to-use protocol with community governance. The protocol has to follow the changes in the underlying blockchain mechanisms.

Lido’s structural components

The following is a broad description of the components of the Lido staking protocol:

1. Staking pool: protocol to manage deposits, staking rewards, and withdrawals

a. node operators registry

b. withdrawal credentials

c. oracles

d. rewards

2. stETH: liquid staking token that maintains balance corresponding 1-to-1 to your share of beacon chain ether

3. DAO: Aragon DAO that governs protocol parameters

Staking pool

The staking pool is the core smart contract of Lido. The contract is responsible for ether deposits and withdrawals; minting and burning stETH tokens; delegating funds to node operators; applying fees to staking rewards; and accepting updates from the oracle contract. Node operators’ manager logic is extracted to a separate contract, NodeOperatorsRegistry.

Users will send ether to the staking pool contract to be minted stETH tokens in return. That ether will be distributed between node operators to maintain uniform distribution and deposited to be validated by their validators. Withdrawal credentials for that ether will be set either to threshold signature of distributed custody or, if withdrawal to eth1 addresses will get accepted by the community, to an upgradeable smart contract that will handle withdrawals when they are enabled.

Node operators also validate transactions on the beacon chain. The DAO selects node operators and adds their addresses to the NodeOperatorsRegistry contract. Authorized node operators have to generate a set of keys for the validation and also provide them with the smart contract. As ether is received from users, it is distributed in chunks of 32 Ether between all active node operators. The staking pool contract contains a list of node operators, their keys, and the logic for distributing rewards between them.

Oracle is a contract that keeps track of balances of the DAO’s validators on the beacon chain. The balances can go up because of reward accumulation and can go down due to slashing and staking penalties. Oracles are assigned by the DAO. Data is sent daily and is used to provide an accurate balance of stETH tokens for users. On days where there have been rewards, a small amount of stETH tokens are minted to the node operators and to the DAO’s insurance and development fund, representing a reward fee.

stETH token

stETH is an ERC20 token that represents staked ether in Lido. Tokens are minted upon deposit and burned when redeemed. stETH token balances are pegged 1:1 to the ethers that are staked by Lido. stETH token’s balances are updated when the oracle reports change in total stake every day.

Lido DAO

We believe a DAO is an optimal structure for launching Lido. If we were to launch Lido without decentralised governance, users would be required to trust a single point of failure to maintain a 1:1 relationship of ETH to stETH – similar to how Tether requires trust that the USDT is backed 1:1 by dollars.

Instead, we believe by distributing governance of such parameters to a decentralised community you reduce the risk to the user.

In addition:

• Lido is highly dependent on the design and restrictions of the beacon chain;
• Ethereum 2.0 staking protocol may change and therefore Lido should be upgradable;
• An insurance provider must be selected and terms for slashing insurance must be negotiated;
• DAO governance is preferable than one person or a developer’s team for making decisions about changes in Lido; and
• A DAO will be able to cover the costs of developing and upgrading the protocol from the DAO token treasury.

The DAO will accumulate service fees from Lido, which can be used in the insurance and development funds, distributed by the DAO.

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