Restaking could introduce ‘hidden risks’ to Ethereum — Coinbase

Ethereum restaking will form a “core part” of the network in the future — but there are still risks that come along with the new yield-bearing mechanism, say Coinbase analysts.

Ethereum restaking could form the “bedrock” for a wide range of new decentralized applications on the blockchain, but it could also introduce several new hidden risks, says Coinbase. 

In an April 2 research report, Coinbase analysts David Han and David Duong noted several risks with restaking and the issuance of so-called liquid restaking tokens (LRTs).

Ethereum restaking protocol Eigenlayer allows users to earn extra rewards — LRTs — by securing actively validated services (AVS) by staking derivative tokens, which are given to those who have already staked Ether (ETH) through liquid staking protocols such as Lido (LDO).

When the Eigenlayer protocol is first launched, the analysts explained the restaking process should be “fairly straightforward,” but a feature of EigenLayer is that staked tokens committed to one AVS can again be staked to another AVS’.

“While this can increase earnings, it can also compound risks,” the analysts said, as it allocates the same funds to similar validators for increased yield.

Secondly, the addition of LRTs means restakers could become concentrated into more high-risk providers offering the highest yields.

“As such, LRTs may be incentivized to maximize their yields in order to gain market share, but these could come at the cost of a higher (albeit hidden) risk profile,” they added.

The analysts also warned that the LRT providers and decentralized autonomous organizations (DAOs) would be incentivized to “maximally restake multiple times to remain competitive.”

Related: Vitalik Buterin shares the next steps for Ethereum Purge

Despite the risks, the analysts said EigenLayer’s restaking protocol looks “poised to become the bedrock for a wide range of new services and middleware on Ethereum, which, in turn, could generate a meaningful source of ETH rewards for validators in the future.”

Han and Duong also predicted that despite the amount of restaked ETH continuing to grow in the long term, there could be a reasonable short-term drop in Eigenlayer’s TVL when point farming comes to an end or if early AVS rewards are below expectations.

On March 6, Eigenlayer flipped lending giant Aave to become the second-largest DeFi protocol, commanding a total of $11.5 billion in total value locked (TVL) per DefiLlama — second only to Ethereum liquid staking protocol Lido.

The market enthusiasm for restaking has already been met with controversy and Ethereum developers warn it could create a concerning amount of leverage.

Restaking proponents, meanwhile, say it offers further rewards to those who have already staked their ETH.