Slightly more than a month after Ethereum enabled withdrawals of staked ether on its platform, the landscape for staking presents a rosy picture on the surface. The numbers of staked ether and platforms offering staking services has multiplied. Ether’s staking yield, which was expected to decline after withdrawals, popped after the event.

Underneath, however, the situation is thorny. Instead of converting ether into a Wall Street asset, the upgrade has transformed it into fool’s gold. Investors frantically chase its high yields between platforms even though the token itself is inherently worthless. Those yields are generated using dubious tactics. The platforms that offer staking are not regulated, meaning they can easily be expunged out of existence.

But the chaos arising out of the withdrawals may hold some lessons. And it could be a pointer to a more stable staking future bolstered by institutional capital for Ethereum.

An Unprofitable Venture

On the whole, staking has not been a profitable venture for investors. According to statistics from Dune analytics, 67.7% of staking investors are underwater. In dollar terms, their numbers are higher. More than 81% of investors who staked their money on ether tokens have lost money.

Still, the amount of staked ether has jumped after the Shanghai upgrade. Before the upgrade, the percentage of staked ether was roughly 15% of the token’s overall supply. Post the event, that figure stands at 19.3%. The number of validators sifting through and confirming blocks of transactions is also up by nine percent to 612494 on Beacon Chain, Ethereum’s main chain.

This is despite the fact that recent developments hardly make the case for staking. In its lawsuit against Coinbase, the Securities and Exchange Commission (SEC) stated that the exchange’s staking-as-a-service constituted a securities offering.

The jump in validator numbers is also a mystery. Addition of new validators to Ethereum is a complex process that requires votes from existing members of the network. Why would existing validators dilute their share of the rewards percentage by adding new members? There’s also the question of expensive gas fees incurred by validators while they await activation in a long queue.

An Unequal Rewards Distribution

One explanation for the current state of affairs is the rewards bump that occurred after the upgrade. While Ethereum’s metrics – transaction numbers, confirmation times etc. – have more or less remained the same after the upgrade, staking rewards from its blockchain have multiplied. Staking rewards are determined using these metrics. Meme coins like Pepe created hysteria and further pumped numbers.

But the distribution of rewards across platforms after Shapella has not been equal. The biggest beneficiaries of the surge in staked ether after withdrawals are not known names like Coinbase and Binance but a string of previously unknown entities like Kiln, Figment, and Swell. These platforms are advertised as “decentralized” alternatives to a supposedly centralized exchange.

As with everything crypto, that’s malarkey. The decentralization label, within the context of crypto, should not be taken seriously. The platforms perform many centralized activities, whether it is whitelisting validators in their network or offering promotional campaigns to attract customers. They also engage in questionable tactics like rebasing and maximal extractable value (MEV) to boost staking rewards for their customers.

Leverage Through LSD Tokens

The use of liquid staking tokens is meant to ensure liquidity of staked ether. But it also introduces leverage into the system. Leverage is the lifeblood of modern finance because it multiplies and disperses the effects of a single instrument.

Within the world of decentralized finance (DeFi), however, leverage stands on shaky foundations. For example, the team behind Lido, the biggest staking platform for Ethereum, has spent millions of dollars propping up LDO, its governance token. It is handed out in rewards to ensure liquidity for stETH, its LSD token. [But the effort has not been successful].

The situation is not very different at Frax, another beneficiary of the recent surge towards decentralized platforms, either. It is one of the largest holders of Curve Finance’s CVX token. Curve finance’s share of the overall DeFi market was sagging until Frax came along, with its high APR derived from Ethereum, to resuscitate its fortunes.

The Regulatory Benediction

It is doubtful that the algorithmic chicanery by such services will pass regulatory scrutiny. Benediction from regulators may also not be forthcoming because, for the most part, these services do not implement AML/KYC laws.

As if in anticipation of oncoming regulatory action, many major staking services have refurbished content on their websites. Binance previously advertised APRs for Ethereum; now it simply defers to the Ethereum network. Lido has removed references to rebasing – a controversial practice that enabled it to boost yields – from its website.

Future of Staking

The current crop of ethereum staking services provide services that are superfluous and do little besides boosting income for validators using questionable means. They are a ticking time bomb both from a regulatory and leverage perspective.

Where does that leave us?

The Proof-of-Stake (PoS) network is not exactly a free lunch. The list of investments that one has to make to kickstart a validator node is substantial. This includes the cost to purchase 32 ETH, around $50,000 at current prices, and deploy instances on Amazon Web Services (AWS) – the most popular platform for ether stakers.

Validators need incentives to make these investments. And fewer validators compromises Ethereum’s security and transaction processing capability.

An Institutional Play

It is notable that the SEC did not come out against the practice itself in its complaints against Coinbase and Kraken, making it likely that the agency is not against the practice. That leaves the door open for institutions.

Ether may not have real world use cases but it can also be a predictable yield generating instrument for companies not interested in the circus that pervades the current staking market.