How to Best Leverage your ETH Holdings

Steve Bammert

Director of Product

Published

April 10, 2024

Many ETH holders want to explore ways in which they can optimize their earning potential on the ETH that they hold.

While staking provides a steady stream of rewards, many customers are hesitant to do so for two reasons: limits to earning potential or a lack of liquidity. ETH holders particularly affected by this are hedge funds, asset managers, and ETP/ETF providers.

ETH holders oriented towards return maximization want a way to leverage their underlying ETH position to deploy it in other strategies. While holders concerned about liquidity may have reservations or even hesitancy to stake (or stake mass quantities) due to a need to have quicker access to their principal.

ETH Holder Profiles

For an ETH holder looking to maximize rewards, staking ETH locks up principal that, at times, could be used elsewhere to generate additional rewards. These holders are not as concerned by price exposure risk – in fact, many may specifically want that with their ETH holdings – but are instead concerned by the amount of capital that they must put up to maintain their long position. These holders are comfortable with risk assets.

The liquidity-minded ETH holder wants access to principal to be able to quickly liquidate the risk asset (e.g., convert ETH tokens to USDC). This removes any price exposure risk. These holders are interested in converting their tokens to stablecoins or fiat currency or would use lines of credit to meet customer redemption requests.

ETH Leverage Solutions That Meet Customer Needs

Figment has identified several products and solutions that address these ETH holder needs ranging from the use of traditional counterparties to novel digital asset solutions. Details are provided below.

Using a Prime Broker or Exchange to Provide Leverage on ETH

What is it?

If an ETH holder wishes to leverage their staked ETH to maximize rewards or get access to liquidity, they can work with select Prime Brokers or Exchanges who offer a leverage solution. This type of solution offers significant flexibility in meeting customer needs – the leveraged or loaned ETH can be deployed in many different ways (e.g., used to trade other digital assets, used in derivatives transactions). Brokers and Exchanges who facilitate a solution like this will limit the amount of leverage and notional borrowing size. However, an ETH holder may have more flexibility to select preferred partners to participate in the leverage and lending facility (e.g., an ETH holder can request the use of a specific staking provider such as Figment).

What are the pros?

• Offers a simple flow for customers
• Provides access to many different ways to maximize returns
• Reduces middlemen in the credit / leverage transaction(s)

What are the cons?

• Must typically leave assets on the prime/exchange platform (i.e., cannot use the leverage / lended ETH in other venues)
• Limit to scale based on the willingness of counterparties
• Confined to single custodians / Prime Brokers at this point as part of custodial solutions

Leveraging ETH via a Lender

What is it?

If an ETH holder wishes to borrow against their digital assets, they can use a digital asset-focused lending provider or solution to borrow ETH. These providers often offer their solution in several venues (e.g., different custodians, different Prime Brokers). Lenders may also offer the ETH holder lower than market rate borrowing terms if the lender is able to stake the digital assets with a provider such as Figment. This product / solution is limited by the risk appetite of the lender (i.e., how much ETH and at what cost is the lender willing to lend to a borrower). In this arrangement, an ETH holder would sign a tri-party agreement with a lender and a custodian. The staking provider (e.g., Figment) would provide staking services directly to the lender.

What are the pros?

• Provides a simple flow for customers
• Reduces middlemen in the credit / leverage transaction(s)

What are the cons?

• Limits on scale will be based on the willingness of counterparties
• May require relinquishing of full control of assets (i.e., custodial solution)

Receiving Leverage on Exchange Traded Products (ETPs)

What is it?

Using traditional finance (TradFi) rails, an asset manager could purchase an ETP that tracks the underlying performance of ETH and includes staking rewards. There is already robust infrastructure in TradFi (e.g., via B/Ds) to support the margining or leveraging of these products. As the products themselves are publicly traded, the ETPs can be (relatively) easily and quickly liquidated within a normal business day and (generally) can be used as collateral to borrow fiat or other securities / instruments.

What are the pros?

• Benefits from TradFi rails (e.g., more likely to be able to lend / borrow the security)
• Likely to have a robust two-sided market because it is publicly traded and will have an authorized participant making markets for the product
• Reduces or eliminates entry / exit queue delays on earning of rewards and access to principal
• Offers tax advantages (e.g., defers staking reward realization)

What are the cons?

• Can have reduced or lower staking rewards rate than native staked ETH options
• May have higher fees as it is a TradFi product
• Likely to provide low leverage ratios and / or high margin rates

Leveraging of Liquid Tokens

What is it?

A holder of LsETH enters into a credit agreement with an ETH credit provider and draws on an ETH credit facility using a shared custody account. The investor (i.e., borrower) can swap their LsETH for ETH via the custody account and use it on the provider’s platform. Leverage in this model is low (e.g., likely 1:1) but investors are able to quickly convert their tokens into spot ETH.

What are the pros?

• Offers simple flow for onboarded customers
• Provides low lending rates
• Solves liquidity issues

What are the cons?

• Requires that assets remain on the custody account platform
• Offers minimal leverage compared to other options

Leveraging through Structured Products (or Private Placement Products)

What are they?

These products are frequently non-publicly listed securities that provide an investor exposure to an underlying product or strategy. For example, a strategy could be as simple as exposure to ETH and ETH staking rewards. A strategy could also be more complex with mixtures of staking and other rewards generation models (e.g., decentralized finance – DeFi – lending). These products are not as easily liquidated (e.g., there could be redemption limits or required holding times) but can likely be used as collateral to borrow fiat or other securities / instruments.

What are the pros?

• Offers investors ownership of shares rather than digital assets which is helpful for those that cannot hold crypto on their balance sheet
• Allows investors to potentially pledge their shares as collateral (e.g., via TradFi or TradFi-like borrowing)
• Provides potential tax advantages

What are the cons?

• Requires a custodial solution as the issuer will take custody of the tokens (or fiat) to deploy it in the strategy
• Could require redemption limits or withdrawal gating which could limit a customers ability to quickly liquidate
• Offers ownership of shares rather than digital assets which could be a negative point for those that would prefer to avoid TradFi rails (e.g., because of costs)
• Does not provide as much transparency on the rewards rate
• Lack of control over underlying product or strategy

Other Ethereum Leverage and Liquidity Options

This category contains other solutions that could facilitate leveraging ETH, many through on-chain solutions. Four specific solutions in this category are: liquid receipt tokens / liquid staking tokens (LSTs), validator NFTs, on-chain staking reward-only exposure, and liquid restaking tokens. Summary descriptions are included below:

• Liquid receipt tokens / LSTs– this is a well-known category. Users receive a receipt token in exchange for their ETH (e.g., Lido stETH, Rocket Pool rETH). The users can then deposit ETH in many different DeFi applications to boost / increase their effective returns. Many tokens are liquid enough to have robust secondary markets to be sold / traded to get quick access to liquidity.
  • Pros: Proven on-chain solution to providing users with a token that can be levered and traded on secondary markets
  • Cons: Requires a secondary market to get access to liquidity, which could be costly in a time of need; Return boosting strategies can be risky depending on the DeFi application
• Validator NFTs – the rights to a validator are not tied to a specific withdrawal address but rather minted in an NFT. The NFT owner has rights to the rewards flow and ownership / control over withdrawal decisions. This solution, in theory, allows for the easier transfer of ownership of validators and could allow users to use on-chain solutions to leverage their ETH.
  • Pros: Provides a way to transfer validator ownership
  • Cons: No robust market to trade / transfer ownership exists
• On-chain staking reward-only exposure – this solution, which best supports risk-reducing-oriented customers, allows a user to gain exposure to only the staking rewards (removing exposure to token price) through on-chain derivatives. This solution allows users to receive more predictable, albeit lower, net returns on their capital and, when the derivatives market is more robust, will provide users with a potential method to trade staking reward rates on leverage.
  • Pros: Abstracts away token price risk, providing access to more stable rewards
  • Cons: Requires a robust derivatives market, which does not yet exist; Yet to be a way to leverage these products
• Liquid restaking tokens (LRTs)– like LSTs for native staked ETH, LRTs are a receipt token on restaked ETH. This solution, like LSTs, provides a liquid token that can, in theory, be deployed in DeFi or quickly liquidated. Therefore, providing additional leverage opportunities and quicker access to capital.
  • Pros: Like LSTs, provides a receipt token that can be levered and traded on secondary markets
  • Cons: Also like LSTs, requires a robust secondary market

As detailed above, there are many different options available to ETH holders looking to generate leverage on their ETH or get quicker access to their principal. Depending on the use case, one or more of the options may be a good fit.

At Figment, we’re at the forefront of the staking industry, providing a class-leading Ethereum staking solution. Here’s why Figment stands out as your go-to choice:

• Point-and-Click Staking Interface: Figment offers a seamless staking experience. Easily stake, unstake, and track your rewards in an easy-to-use application.
• Industry-Leading Performance: With an average Staking Rewards Rate (SRR) of 4.2% throughout Q4 2023, Figment significantly enhances your opportunity to collect more staking rewards.
• Transparent Rewards Reporting: Access detailed statements in various formats for a clear view of your staking performance.

The information herein is being provided to you for general informational purposes only. It is not intended to be, nor should it be relied upon as, legal, business, tax or investment advice. Figment undertakes no obligation to update the information herein.