Lido Deep Dive Research

Opportunities

• Shanghai upgrade to further drive overall ETH liquid staking: The Shanghai upgrade of Ethereum is expected to launch in April 2023, aiming to enable the withdrawal function. Once it is successfully implemented, users can deposit and withdraw ETH freely. It is estimated by several crypto research firms that the withdrawal function will increase the ETH staking ratio as concern of liquidity control will be mitigated. Currently, only 13% of total ETH is staked, which is lower than that of other PoS blockchain, such as Cardano (72%), Solana (71%), Avalanche (62%), Cosmos (62%), Polygon (39%), representing a huge market upside potential. 

Some would wonder if users who staked their ETH at an earlier time would unstake and sell their ETH when the withdrawal function is enabled, creating selling pressure. However, the unlock is gradually fulfilled instead of unstaking all at once. Currently, it is estimated that the daily withdrawal limit is around 55,000ETH. Under this assumption, it will take 299 days to unstake all ETH based on the current number.

Diamond hands: Lido’s price performance has been strong since 2023. During the price spike, many VCs started to sell their tokens. It can be expected that VCs who did not sell in the beginning of Jan 2023 are more likely to stay in the long run.

Source: Lookonchain

• More decentralized initiatives: One of the disadvantages of Lido is that being a validator requires permission. With the introduction of DVT, it could become more decentralized in the future, meaning better security.

Risks

• Intensified competition: Despite having significant market share, Lido has faced intensified competition from other decentralized peers. Examples are Rocketpool and Frax, and both utilize more decentralized approaches to running node operators and are more involved in other ecosystem. Lido’s market share increase primarily came from one individual in Feb 2023, and is actually losing market share from Jul 2022 to Jan 2023.
• Token function: The LDO token only has governance and incentive functions, which is not directly linked to the operating performance of the protocol.
• Mechanism of withdrawal is unknown: Currently, the withdrawal specification is not finalized. When Ethereum’s withdrawal specification is finalized, Lido will prepare a new contract and initiate a vote among LDO holders for the upgrade. Although unlikely, the risk of unsuccessful implementation can’t be ruled out.
• Depeg: As stETH’s price is pegged to ETH, there isa possibility that stETH depegs (i.e. losing 1:1 ratio), especially when the crypto market experiences huge price decline or deleveraging.
• Regulation: In Feb 2023, SEC charged Kraken with a $30mn fine as a result of failing to register their crypto asset staking-as-a-service program. Given the SEC’s aggressive actions recently, it is uncertain how decentralized staking platforms will be impacted.  

Illustrative Valuation

An illustrative valuation LDO ranges from (8.9%) – 27.5% based on the following assumptions:

• 2023E ETH total supply is 119.3mn
• 2023E ETH staked ratio can potentially rise to 20% (from 13%) by the end of 2023 from the Shanghai upgrade.
• Lido’s market share might range from 25%-35%. Liquid staking market can potentially expand due to the Shanghai upgrade, but competition will also intensify. Base case is Lido maintaining its market share of approximately 30%.
• ETH price: USD 1500

Currently, Lido’s MC/TVL is around 0.24x, around the same as the median peer multiple of 0.23x.  There is a possibility that Lido will trade closer to Uniswap’s 1.23x multiple in the long run due to:

1. Lido’s leading position in the liquid staking sector
2. As the Shanghai upgrade completes, liquid staking protocols will play a more important role in DeFi as well as liquidity aggregation.