Understanding Liquid Staking: An Insight into its Working

Liquid staking is a method that allows cryptocurrency holders to participate in staking while still maintaining control over their assets. Normally, when assets are staked, they become illiquid and cannot be exchanged or transferred. With liquid staking, users can stake their assets and receive tokens or derivatives that represent their staked assets. These tokens can then be traded or transferred, providing flexibility to the staker.

Delegated proof-of-stake (DPoS) is a variation of proof-of-stake (PoS) that allows network users to elect delegates to validate blocks. Users can pool their tokens together to vote for a preferred delegate. Liquid staking, Aims to lower the threshold for staking and allow stakers to bypass the lock-up period for their tokens. Blockchains often have minimum requirements for staking, which can be costly and require specific hardware and expertise.

Staking-as-a-service platforms provide a way for users to delegate their assets to a third party who will stake on their behalf. These platforms can be custodial or noncustodial, depending on the level of decentralization. Custodial platforms manage the staking process and distribute rewards, while noncustodial platforms charge a commission to participate in staking and send rewards directly to the staker.

Liquid staking works by allowing users to pool their stakes into a smart contract, which then distributes corresponding liquid tokens to each staker. This eliminates the threshold for becoming a staker. Stakers can then earn profits from both their staked tokens and the liquid tokens by engaging in activities such as trading or lending.

An example of a platform that offers liquid staking is Lido, which supports multiple PoS blockchains like Ethereum, Solana, and Polkadot. Lido allows users to stake fractions of the minimum threshold and receive Lido Staked ETH (stETH) tokens in return. These tokens represent the staked ETH and can be used for various purposes in the DeFi space.

There are risks associated with liquid staking platforms. Technical threats include protocol bugs or vulnerabilities that could result in asset loss. Reliance on validators also introduces counterparty risks. Market risks arise from the potential for losses in a market downturn. To mitigate these risks, platforms should be open-sourced, audited regularly, and have a bounty program for bug reporting. Comprehensive due diligence is also important in managing market volatility risks.