When you stake Ethereum you delegate your ETH to validators who use it to participate in validating transactions on the Ethereum Network. In return for doing so, you receive a reward every 15 seconds. In this comprehensive guide, I will walk you through what it means to stake on Ethereum, how you can earn passive income doing so, and the right way to do it.
First, you need to understand how Ethereum works but before we do that I want to briefly introduce you to Ethereum
What’s Ethereum?
Ethereum is a blockchain that emerged in 2013 after Vitalik Buterin, a then 19-year-old developer wrote a whitepaper on what a superior blockchain to Bitcoin would look like. A group of people became inspired by the whitepaper and got together to write the code that became version 1 of the Ethereum Network.
What makes Ethereum stand apart from Bitcoin is that is more general. While the Bitcoin Network does one thing well, i.e. it creates Bitcoin, Ethereum allows you to build anything on top of it using smart contracts. Most of the most popular DeFi apps such as Uniswap, Compound, Curve, Yearn Finance, and the like are built on top of Ethereum.
The first NFT also emerged on Ethereum and ofcouse so did the ERC-20 standard which allows anyone to create a token from scratch.
Ethereum is by far the most popular blockchain platform after bitcoin.
Ethereum’s market capitalization, as measured by price times circulating ETH, at the time of writing stands at almost $200Bn. That’s larger than the GDP of some countries.
Let’s take a look at how Ethereum works.
How Ethereum works
On Ethereum, transactions are verified using what’s known as a proof-of-stake consensus mechanism.
Here is how proof-of-stake works.
In order to participate in adding new blocks of transactions to the Ethereum blockchain validators need to put up a minimum amount of ETH as collateral.
Currently, the minimum requirement is 32 ETH.
Now, if the other validators all disagree with your transaction block you could have your ETH slashed i.e. taken away from you. You could also get slashed for your node going offline.
Your ETH collateral and your reputation are at stake and this is where the term Proof of stake originates from.
Now the validator who adds a new block of transactions is rewarded in newly minted ETH plus transaction fees.
ETH inflates at 0.52% per year so that it can reward validators for adding new blocks.
Who gets to add the new block?
The selection depends on chance but the more ETH tokens you stake the higher the chance that you are selected.
This aligns incentives pretty well. Think about it:
As a validator, you don’t want to cheat because you get your staked ETH slashed.
Then on the other hand you want to stake as much ETH as possible because it increases the expected rewards.
But the more you stake the more you have to lose and the less likely you to try to cheat.
Wait wasn’t Ethereum using Proof of work?
Yeah up until September 2022, Ethereum was using a proof-of-work (PoW) consensus mechanism.
This is the same algorithm that Bitcoin uses where crypto miners use powerful computers to solve cryptographic puzzles. The miner who solves the puzzle first gets to add the new block to the blockchain and reap the rewards.
Ethereum decided to move away from PoW mining because 1) it was energy intensive and crypto was receiving a lot of criticism for being unfriendly towards the environment and 2) it was less scalable than PoS.
On September 15, 2022, Ethereum created a hard fork called the Beacon chain where transactions are now verified using the more environmentally friendly proof-of-stake mechanism.
How Ethereum staking works
So how do validators find the ETH to stake?
Well, it turns out the validators can solicit ETH from the public. In theory, anyone can become a validator but in practice, you need to have the technical expertise to do it.
However, what you can do is delegate your ETH to be staked with a validator of your choice.
This way the validator has more ETH to stake and in return for your kindness they will share most of the reward with you.
What are the different ways to stake Ethereum?
There are 4 ways ETH holders can go about staking their ETH.
#1. Solo staking
To become a solo staker you need to operate your own validator node yourself by staking 32 ETH. This option requires deep technical knowledge and is a no-go for most people.
#2. Staking as a Service
In this scenario, you delegate your 32 or more ETH with a validator of your choice. This requires that you have 32 ETH to spare.
This too requires that you are willing to learn or have some knowledge of how to set up validator credentials and upload your signing keys to them.
For most people it gets complicated. The benefit of this option is that you can unstake at any time as you have control of your keys.
#3. Pooled staking
This is a much easier option whereby you connect your wallet to third parties who act as intermediaries between you and the validators.
Lido and Rocket Pool are some examples.
This is a good option for those who have less than 32 ETH to stake and it is much much easier than the first two options.
The most popular staking pool is Lido.
About 30% of all staked ETH is via Lido at the time of writing.
A key reason is that Lido offers liquid staking. I will explain this a little further down. To get the complete lowdown on Lido and liquid staking read my post, “What is Lido Crypto?”
#4. Via crypto exchanges
This is the easiest and most expensive option. Many exchanges are themselves validators and you can directly stake your ETH on their platform at the press of a button.
A centralized exchange tends to charge more than a Pooled Staking provider but if you don’t want to deal with managing a wallet or learning what a crypto address is then it’s a good option.
Check out What is Coinbase Staking to see an example of how it works.
How much can you earn from ETH staking rewards?
At the time of writing validators earn 3.8% APY (annual percentage yield) and about 20% of all ETH is staked.
If more ETH gets staked the reward rate will drop as ETH inflates at 0.52% per year.
What you end up getting will range between 3.1% and 3.6% APY.
For example, Coinbase pays on the lower end of the range at 3.08% whereas Lido pays out 3.6%.
The cool thing about Lido is that they do liquid staking. Let’s take a close look at what this is
What’s liquid staking?
When you stake your ETH you are locking it up so you can’t use it in other transactions. Think of it like a fixed deposit savings account.
When you stake with a liquid staker you will get a receipt proving that you have staked your ETH.
Because this is crypto land we are talking about the receipt is in the form of a token.
For example, Lido issues a stETH token in place of a receipt token, and Coinbase Wallet’s liquid token is called CBETH.
Now the cool thing about these receipts is that you have liquidity once again.
You can use the receipt tokens to do other funky stuff like:
- Use your stETH as collateral to take out a loan
- Lend your stETH and earn interest on it
- Join a liquidity pool and earn trading fees
There’s more but you get the picture. And this is why it’s called liquid staking.
So yeah with liquid staking you may earn 3.6% but if you reinvest your liquid tokens you can get an additional yield. Liquid staking great way to earn extra yield and participate in DeFi.
Should I stake my ETH?
If you plan to hold ETH for the long term then yes you are better off staking otherwise your holdings will lose value at a rate of 0.52% per year.
Staking ETH is not completely risk-free but assuming you believe in the long-term prospects of Ethereum then you likely have faith in its proof of stake system.
What are the risks with staking ETH?
- Slashing: if you delegate your ETH to a validator that acts maliciously or negligently you risk losing all or part of your ETH. Choose a reputable validator or go with a mainstream option in order to minimize this risk.
- You won’t have access to your staked ETH while it’s locked up. This means if you need to sell fast you won’t be able to. After Ethereum’s Shanghai Update in April 2023, you are able to unstake within 3-7 days. A way around this issue is to do liquid staking where you can convert liquid tokens to ETH in 5 minutes for a small fee.
- Counterparty risk. If you are using a third party to stake your ETH there is always the risk that they get hacked or lose your digital assets. Unfortunately, this is a recurring theme in crypto.
And of course there are the usual technical and regulatory risks that you face with anything you do in crypto.
Which is the best place to stake ETH?
I’ll let you in on a secret: almost all of the sites recommending where to stake ETH are getting affiliate commissions for doing so.
I don’t collect affiliate commissions yet so I can tell you what I really think.
The best option is for you to learn how to use a wallet and plug into Lido.
From there you can earn 3.6% and then take your stETH and use that to earn an additional yield on any of the DeFi platforms such as Uniswap, Yearn Finance, Curve Finance, and so on.
The second best option is to use a crypto exchange.
But they will take a much larger cut of the rewards.
If you only hold a small amount of ETH then it won’t make much difference but if you are in it for the long run it is a big difference and you are better off with liquid staking.
FAQs
Is staking ETH a good idea?
Yes if you plan to hold ETH for the long term you might as well stake it to earn a return higher than the rate at which it inflates.
Does staking Ethereum make money?
Yes, most exchanges pay out staking rewards every 3-7 days which in turn you can re-stake to compound your yield.
Is there a downside to staking Ethereum?
Not really. The most common fear when Ethereum first launched its Proof of stake process was that you would not be able to retrieve your staked ETH. However, this is no longer the case and you can get the full amount of your stake within about 3 days. Keep in mind that the risk is not 0. There are still the usual third party risks such as wallets getting hacked etc.
Is crypto staking worth it?
Yes, it makes sense to stake if you are sitting on ETH doing nothing with it. Are you going to become rich from that? Probably not, but you will get a nice yield of 3-3.8% APY.
Can you withdraw staked Ethereum?
Yes, you can. On liquid staking platforms you can unstake for a 0.001% fee within 5 minutes and 1-4 days for no fee.
What happens with staked ETH?
Your staked ETH is delegated to validators who stake it on Ethereum's proof of stake consensus mechanism. When its time for the next block to be added a validator is chosen at random and is rewarded for adding the block. The chances of being selected is proportionate to the amount of ETH the validator has staked. The validator shares the staking rewards with you.
Where is best to stake Ethereum?
The most popular place to stake Ethereum is Lido where about a third of all staked ETH is. Other options are to use a crypto exchange but crypto exchanges charge higher fees.
Is staking ETH taxable?
Yes in jurisdictions where crypto taxation is regulated such as the US your staking rewards are treated as personal income and are taxed regardless of wether you hold or sell them. If you do sell then you also need to account for any capital gains between the time you acquired ETH and when you sold.
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