Staking has become a popular way for cryptocurrency holders to earn rewards by holding and participating in the network security of a blockchain. Ankr has been on the forefront of this innovation for years. While liquid staking offers a number of advantages, it also comes with a set of risks that investors should be aware of before making any decisions.

In order to assist you in doing your due diligence we’re providing complete transparency on the various risks of liquid staking. Recognize that all liquid staking solutions share these risks and your job as a user is to determine which protocol you feel minimizes these risks the best.

In this article, we will discuss the risks associated with liquid staking and what you need to know to make informed decisions regarding your liquid staked assets.

Security Risks

The most significant risk associated with liquid staking is security. When assets are staked, they are typically locked away in a smart contract or other secure environment, where they cannot be easily stolen or misused.

Depending on which liquid staking provider you choose there are risks that the smart contracts that hold the original unstaked assets will have bugs which makes them susceptible to hacking or other forms of cyber attack.

When liquid staking, always keep in mind that your original assets are in the hands of a third party, which always adds a level of counterparty risk.

At Ankr, our smart contracts have been audited by several firms that can be found on our documentation.

Low Liquidity & De-Pegging

Another risk associated with liquid staking is low liquidity risk. A beneficial feature of liquid staking tokens is that you can swap them for their base asset counterpart instantly in DEXs without having to wait for the lengthy unbonding period that comes with staked assets. That being said, if the TVL in the liquidity pools runs dry then the token can lose it’s peg which also causes a high slippage when trying to swap between the assets.

One of the ways that liquid staking tokens hold their peg is because of arbitrage mechanisms in DEXs. Therefore if the TVL in the liquidity pools drops dramatically this could alter the arbitrage incentives and spiral into a situation where the token doesn’t hold its peg.

This could result in investors being unable to sell their staked assets when they need to, potentially leading to significant losses. However, this is only a major issue for Ethereum Liquid Staking as the ETH is not redeemable yet. On other chains, arbitrageurs can buy the discounted tokens in liquidity pools and unstake them for full price, making a premium.

Hacks

Another huge risk of liquid staking tokens is that the smart contract would get hacked and the assets held as collateral would be stolen. For example, let’s say you mint liquid staked ETH from a protocol. When you provide your ETH they will hold it in a smart contract and mint an equal amount of liquid staked ETH. The risk here is that if the protocol got hacked then your original ETH could be stolen.

Validator Slashing & Counterparty Risk

Liquid staking providers are responsible for maintaining the infrastructure and technology that supports the staking process. If there are any operational issues, such as system downtime, network outages, or other technical problems, the staked assets could be at risk.

More specifically, the assets that you provide to the liquid staking protocol have to be staked with validators. If the protocol chooses untrustworthy validators then the staked assets could get slashed. Therefore, you should carefully consider the operational risks associated with liquid staking and only invest with trusted and reputable providers.

Conclusion

Liquid staking has become a popular way for investors to earn rewards while also having access to their staked assets. However, it is important to be aware of the risks associated with this form of staking. Security risks, de-pegging, hacks and slashing (to name a few) are all potential challenges that you should consider before making any decisions.

In short, you should thoroughly research any liquid staking provider that you are considering and only invest your valuable money with trusted and reputable liquid staking providers. Additionally, you should be prepared to closely monitor their investments and take action as needed to minimize risk exposure.

In conclusion, liquid staking can offer a number of advantages, but you should be aware of the risks and make informed decisions to ensure the safety of their assets.