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Seeking Alpha 2023-03-23 00:19:02

Ethereum: Bank Crisis Bull Run But Staking Is Not A Nice Dividend

Summary Ethereum Shapella hard fork, barring any delays, is targeted for 12th of April 2023, enabling staked and exit withdrawals. Concern about the Shapella hard fork is not so much regarding validators or people taking profits, an inflow of new stakers provides downward risk on the staking rewards. Ethereum has its bumps in the development roadmap, but I believe it is scaling nicely to become a more accepted and applicable solution for payments. Ethereum (ETH-USD) has been doing quite well so far this year and there are good reasons for that outside of the cryptocurrency ecosphere. Focusing more on Ethereum, I will discuss why staking Ethereum might be wise but also why return on staking ETH might become pressured. Why Is Crypto Going Up Right Now? Seeking Alpha So far this year, Ethereum gained 45% which is very strong. Just like stock markets the start of the year was good. There was some optimism on inflation decreasing in December, which fueled hopes that interest rates would not explode further meaning that cheap money could pour into the system including the crypto currency system. As banking stocks came under pressure due to underwhelming earnings reports , risk appetite decreased so stock markets went down and crypto started moving more or less sideways. When crypto friendly banks collapsed that put pressure on crypto prices. At the same time when other names started collapsing such as the Silicon Valley Bank (SIVB) and Credit Suisse ( CS ), it had two side effects that are positive for crypto currencies. The first is that the expectation is that interest rates would not be hiked as aggressively and might even be lowered which makes borrowing money cheaper. Whether it is stocks or crypto, a lot of money flowing into the system is money borrowed in some way or profits realized with borrowed money. I wouldn’t call it a risk-on mode, but there certainly are expectations on the interest trajectory going forward. Secondly, failing banks in some way provide a validation for the need of decentralized systems. So, bank failures significantly improves sentiment in the cryptocurrency sphere. That’s not to say that everything is great with crypto and more specifically Ethereum. The crypto world had its own set of collapses last year. Crypto started a broad sell off in 2022 after the SEC announced new crypto regulations in April 2022 and the debacle with Terra Classic (LUNC-USD) as its stable coin depegged leading to its collapse. In September 2022, Ethereum transitioned from a proof-of-work concept to a proof-of-stake concept and that actually did nothing positive to the price. The sentiment in the crypto world so any positive development for a particular coin would not create waves and the FTX collapse in November 2022 did not help either. Generally 2021, was not great either. It started great especially for Ethereum as NFT sales for which Ethereum was used popped and Elon Musk stated that Tesla would start allowing payment in Bitcoin, but that decision was reverted citing environmental concerns and China became tougher on crypto currency mining. Specifically for Ethereum, an important implementation was EIP-1559, which is an upgrade that should burn part of the rewards miners received for validating transactions. For miners that wasn’t great, I saw my mining income decrease by an average of 25% due to the implementation of EIP-1559 but the idea behind the implementation of it was to reduce transaction fees making payments via the Ethereum network more affordable. As a miner you wouldn’t have noticed much of it, because while transaction fees were down there was no meaningful or notable change in transaction volumes. So, basically the implementation of EIP-1559 and the transition from a proof-of-work [PoW] consensus to a proof-of-stake [PoS] haven’t had a notable effect on the price of Ethereum partially because of the sentiment in the crypto world. How Much Do You Earn With Ethereum PoS? Ethereum With current high energy prices, mining already came under pressure even before Ethereum transitioned to the PoS concept thereby flooding all other cryptos with hashpower and removing profitable operations. On stable cost from the time before energy prices surged, but at current crypto prices my yield on costs (which is the sum of electricity cost plus equipment costs) would be nearly 30%. That is also why a lot of young people considered mining for income, it wasn’t cheap by any means, especially with the hardware prices going through the roof but there certainly was a big fat juicy yield on your investment. Reality is that too many miners started little too late with mining while paying a huge premium for mining equipment and they ended up selling some crypto sometimes all of their crypto to at least have the impression they covered their losses. Proof of Stake doesn’t require big upfront investments you would think. You need a computer and internet and some tools installed. That’s it, right? Not really. To keep validators committed and performing they have to pledge a total of 32 ETH, which at current prices costs north of $56,000. I know miners who have invested that kind of money for mining equipment but the reality is that for most a 32 ETH pledge is too steep unless you have been mining for a very long time or bought Ethereum when it had a very low price point. Even then, the yield is not great I would say and there are risks. One risk is that the yield fluctuates daily. I currently have some Ethereum staked via a pool and that gives me a 4.2% yield after fees and 4.9% before fees. Your earnings depend on how much Ethereum you have staked. The Risks Of Ethereum Proof-of-Stake With Proof-of-Stake there are a few risks. The first one has been that the official staking is a locked staking mechanism meaning that you cannot have your rewards and your staked Ethereum paid back to you until the Shapella (Shanghai and Capella) hard fork is implemented. There has been some uncertainty regarding timing and that was an obvious risk, especially after a core developer incorrectly claimed that Ethereum never said it would enable staking rewards to be payable in the hard fork following the transition to Proof of Stake. However, it is the case that the Shapella upgrade will include the ability to withdraw for Ethereum stakers. The next risk was that the timing was not known, so if you had your crypto staked you would not know when you could withdraw. The hard fork is now anticipated on 12 th of April, so that is a risk partially eliminated although as with each hard fork the timeline could still slide. You can wonder what risk will remain in that case? The risk is that to provide stability to the network, validators cannot all quit at once. You will have to queue for withdrawal of your staked rewards plus there will be an exit queue for the staked Ethereum. There is a maximum number of withdrawals per block allowed in order to preserve the stability of the system. However, I am not so much concerned about people unstaking. The people that are currently staking are the people that held on to their crypto and wanted to earn some in the process, some might want to unstake and take profits but the people that staked their coins are much more patient that the people that started buying GPUs in bulk with expectations of a 30% return on their investment each year. What might be reducing the yield of Proof-of-Stake is stakers flowing into the system. Previously it was not really attractive to stake your Ethereum without knowing when it could be unstaked. With that out of the way, I can imagine that the numbers of validators grow and the interest rate for staking will take a hit. I cannot say with certainty what will happen, but if logic applies here with reduced risk on the timeline of unstaking more people would stake their Ethereum but it would also mean lower interest. A simple case of lower risk, lower reward and having to share the proceeds with a bigger pool. So, while the hard fork needs to happen at some point to keep the number of validators growing long term I don’t think this will be a net positive for the interest on staking your Ethereum and another drawback is that the interest is a simple interest and does not compound. The reward you earn each day varies and that reward can come under pressure which is already not a high reward. The SP500 has a dividend yield of 1.7%, so PoS seems more rewarding at least for now but I believe you can easily build a dividend portfolio with a better yield. I did that the past years and without taking huge risks, my yield and yield on cost are over 7%. So, if you are looking for yield staking might not be most attractive. A reason why you want to consider staking is because else you would have your Ethereum somewhere stored on a cold wallet not creating any value for you while staking allows you to increase your Ethereum without really doing anything for it. No energy consumption and staking via a pool means that you have do nothing else than committing your Ethereum and after a waiting period it starts giving you your interest. Another risk that should not be ignored is that of improper behaviour of a validator. So, there is the risk of slashing where validators are penalized for bad behaviour losing some of the 32 ETH that were staked. Because validators have some skin in the game, the rationale is that bad behaviour can be avoided because if it still occurs, some of the 32 ETH is lost and losses compound for as long as the validator is in the exit queue. Conclusion: Ethereum Staking Low-Energy, Low Reward But Better Than Nothing. Staking is nowhere near as rewarding as mining and to be honest, my stock portfolio has a better yield. However, the risk and cost of staking are low. You can stake on some pools for as low as 0.1 ETH while mining required a significant upfront investment and some knowledge on power management to not burn down your house. So, you get a lower reward, but also a lower risk and capital burden. The risk of slashing remains, but that is only the case when validators are engaging in bad behaviour. The interest rates are in some way comparable to dividends yields as those also fluctuate daily but they differ in the sense that rewards differ daily which is not the case with dividends. Dividends only change when an adjustment is announced with no daily fluctuations on the reward paid. I would not consider staking over a dividend stock portfolio as I believe yields will come under pressure after the Shapella upgrade and you can easily build a nice yield portfolio with save stock investments. You should consider staking if you have some Ethereum and you intend to hold and don’t mind earning some extra on the side without doing much for it. Overall, while I am not quite charmed by the yields for staking I do believe that this is the best way forward for Ethereum and could create higher prices for the cryptocurrency.

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