What is staked ether (stETH) and why is it causing havoc in crypto?

On Jun 20, 2022

Ether is the second-largest cryptocurrency in the world by market value.

Jaap Arriens | NurPhoto via Getty Images

Another controversial cryptocurrency is causing havoc in the digital asset market — and this time, it’s not a stablecoin.

Staked ether, or stETH, is a token that’s supposed to be worth the same as ether. But for the past few weeks, it has been trading at a widening discount to the second-biggest cryptocurrency, fanning the flames of a liquidity crisis in the crypto market.

On Friday, stETH fell as low as 0.92 ETH, implying an 8% discount to ether.

Here’s everything you need to know about stETH, and why it has crypto investors worried.

What is stETH?

Each stETH token represents a unit of ether that has been “staked,” or deposited, in what’s called the “beacon chain.”

Ethereum, the network underpinning ether, is in the process of upgrading to a new version that’s meant to be faster and cheaper to use. The beacon chain is a testing environment for this upgrade.

Staking is a practice where investors lock up their tokens for a period of time to contribute to the security of a crypto network. In return, they receive rewards in the form of interest-like yields. The mechanism behind this is known as “proof of stake.” It’s different from “proof of work,” or mining, which requires lots of computing power — and energy.

To stake on Ethereum currently, users have to agree to lock away a minimum 32 ETH until after the network upgrades to a new standard, known as Ethereum 2.0.

However, a platform called Lido Finance lets users stake any amount of ether and receive a derivative token called stETH, which can then be traded or lent on other platforms. It is an important part of decentralized finance, which aims to replicate financial services like lending and insurance using blockchain technology.

StETH isn’t a stablecoin like tether or terraUSD, the “algorithmic” stablecoin that collapsed last month under the strain of a bank run. It’s more like an IOU — the idea being that stETH holders can redeem their tokens for an equivalent amount of ether once the upgrade completes.

Decoupling from ether

When the Terra stablecoin project imploded, stETH’s price began trading below ether’s as investors raced for the exit. A month later, crypto lender Celsius started halting account withdrawals, which saw stETH’s value dropping even further.

Celsius acts a lot like a bank, taking users’ crypto and lending it to other institutions to generate a return on deposits. The firm took users’ ether and staked it through Lido to boost its profits.

Celsius has more than $400 million in stETH deposits, according to data from DeFi analytics site Ape Board. The fear now is that Celsius will have to sell its stETH, resulting in hefty losses and putting more downward pressure on the token.

But that’s easier said than done. StETh holders won’t be able to redeem their tokens for ether until six to 12 months after an event known as the “merge,” which will complete Ethereum’s transition…