Highlights From Bitrue Special: To Stake Or Not To Stake? “Ask Me Anything” Session

26 April, 2023 — In another edition of Bitrue to the Spaces AMA. Our special guest, Gil Rosen from Stanford Blockchain Accelerator joined us in a conversation about Staking. Stanford Blockchain Accelerator is an organization that aims to incubate top Stanford startups in a crypto-native way and connect Stanford students with top crypto VCs, prominent protocols in the industry, and experienced mentors. With a wealth of experience in the crypto industry, Gil has kindly taken the time to chat with us about all things Staking-related in this session.

Below are the main Q&As from the session.

Q1. Before we dive in, Gil, could you give us a quick introduction to yourself and what you do?

Sure. A pleasure to meet you and to meet everyone here. So, as you mentioned, I run the Stanford Blockchain Accelerator, which is a student organization supporting Stanford students and alumni in building blockchain projects. We try to help drive blockchain adoption and support projects that are kind of tackling the frictions for blockchain adoption whether it’s infrastructure scalability and cross chain challenges, whether it’s developer tooling to make it easier to actually build viable projects on the blockchain, user experience through account abstraction and trying to simplify adoption by people being able to use decentralized applications better. So our aim is to really help founders choose the right types of projects and support them in their go-to-market and launch.

I also teach a course on blockchain entrepreneurship with a few others at Stanford, and we bring in speakers to kind of talk about interesting topics and hopefully inspire fresh founders in the space. Before that I was an entrepreneur, built a couple of companies in the distributed Compute space and have been in Blockchain since 2016.

Q2. What are the benefits of staking on the overall Blockchain ecosystem and are there any projects at Stanford Blockchain Accelerator that have anything to do with staking?

There are a few layers we can go down here. I’ll try to keep it relatively high level, but ultimately Blockchain is a decentralized technology and platform which creates shared digital infrastructure, which means we want to have an application that anyone can come in and use, which means someone needs to run that application. The people that run these applications are either running the infrastructure layer of chains like Ethereum, Polygon, etc., and given that, we want people to be running these infrastructure layers, they need to be providing their own resources to do that. So until now that was basically kind of miners quote unquote which meant that they would provide computing resources to execute, to update the ethereum blockchain itself, to validate what others were doing or to check the work of other folks as well and to run smart contracts.

The beauty of blockchain is that it’s permissionless which means that anyone can come in. It’s incentivized to help run this infrastructure, but that also presents issues of potential fraud and bad actors because it’s permissionless and anyone can come in. So all protocols have incentive structures and rewards to ensure that people want to offer up their compute resources for maintaining the blockchain and running smart contracts. But at the same time they need to be able to punish or disincentivize these actors from doing things dishonestly and potentially recording transactions that are false. The way this happened with proof-of-work was we would just make it really expensive for anyone to run any given transaction by having them basically guess a hash of a number that was very large. And this required specialized computers, asics etc, or just like powerful computers. And it would waste a lot of energy. And that wasting of energy would incur a cost. And that meant that if one out of every million potential transactions that were fraudulent would potentially get through the system, it was really expensive to try to create a fraudulent transaction in the first place, that you would be disincentivized from doing that. What ended up happening is that only people with large computing resources were able to become miners or generally, but more importantly it wasted a ton of energy which is not good for the environment. There are many issues with that overall and it also presented decentralization issues which is if it takes significant resources to do these things then you have these large mining operations that were dedicated for this and you’re not as decentralized. Ideally, you want a decentralized platform to allow almost anyone to be able to come in and offer their compute resources or to participate in the infrastructure layer and the more decentralized it is, the more secure the overall platform is. And that’s really where the shift to proof-of-stake comes in, where now instead of having to guess this huge hash and waste energy resources, you stake. Basically anyone can come in and can run a validator potentially, the requirements are not terribly large and you have to put down 32 ETH to stake it basically. And one person within a group gets chosen to create the block and to process the transactions themselves, to update the state, and those around them validate that they’ve done things properly. And if everything is copacetic, then essentially there is a reward that’s distributed to all of the parties that validated and that proposed the new block and the one that was validated, that was chosen to propose the block themselves receives the transaction fees. So that’s the happy path, sad path, as if it’s a bad block. Everyone gets slashed and loses their ETH that they’ve just staked, so they’re disincentivized from being dishonest.

Q3. How does staking differ in crypto, i.e. staking on exchanges, DeFi, etc. as compared to TradeFi, i.e. retail bonds, structured investments, or even fixed income securities?

Yeah, so great question. On the surface it’s very easy to think that staking is just security, I mean, the Howie test is, are you expecting a return. You put some ETH in, you wait, and then ETH comes out, which seems like, okay, that looks lot like many of these structured investment instruments or a loan that you get an interest on. I think the primary difference here and the nuance is that you’re not just giving an investment and hoping someone else does all of this stuff and that it provides a return. You’re actually running a platform and a protocol. So you’re actually doing work that is critical to maintaining whichever blockchain, platform, or protocol, ethereum, polygon, etc. So in running these validators in staking, your ETH, you’re not just like, putting money down. You’re actually supporting and involved in running these validators themselves. And these validators are doing things. They’re running smart contracts. They’re updating the state of the blockchain. So I think there’s a nuance there that needs to be understood. Now when we get into some of the other alternatives of staking as a service, or liquid staking, it starts to look a lot more like maybe there is more overlap there from a security standpoint. Because at that point, you are kind of delegating everything to someone else, and you’re just giving money for someone else to do a whole bunch of work. But there’s more of a gray area there. But certainly, it’s not all this blanket. Just staking is a security because you’re not just putting money down and expecting a return. You’re actually providing a service.

Q4. What are the risks associated with staking, and how can stakers stay safe?

Great question. I mean there are a lot of different ways to stake, right? I guess just to go back to the other example, comparison with mining. In mining, to be a good miner, you need tremendous computing resources, you needed access to energy and low-cost energy, and those were basically the primary things that limited who could mine and who couldn’t mine. In staking; really, there are two things. One, you want to be able to stake honestly, and two is you need uptime. So if you’re not seeing every single block that comes in being proposed and then validating, then you can easily get slashed. So you still need computing resources but not nearly what you need beforehand. The compute resources are relatively modest, but really it’s like network uptime to make sure that you’re able to not get slashed.

And there are a number of different ways that you can stake, right? So you can either literally just run a solo validator, or you can download the application that needs to run that validator. It’s like an i7 Intel machine with however many GBs of RAM. So it’s fairly reasonable, and you can run it. And if you have really good network and you can ensure that your machine is never going to be down and you have like 99.99 or whatever percent uptime, then you’ve got a pretty good chance of not having tremendous risks on the staking front. However, if you can’t, then the other options are you could either delegate that to someone else to do it for you, and then you’re trusting them and doing it and they take a bit of a cut.

One other note is you need 32 ETH to be able to stake, right? That’s the minimum amount of running a validator. So if you don’t have 32 ETH, then that’s a problem as well. Then you can join a pool. There are also ways where someone else that is running a validator you and a few others can pool together and now you’re trusting this person that’s running your validator for you. There are validator services out there that kind of derisks that a little bit and are more trusted. And then there are these things called liquid staking pools where basically a third party is running these validators for you, and you basically buy a token, and that token represents your staked Ethereum.

But ultimately, from a risk perspective, it’s like are the validate if you’re doing it yourself, are you going to have that uptime not to get slashed? And if you’re doing it through someone else, can you be sure that they’re honest? And B, which are usually all of these large providers, are huge. There isn’t really concern about dishonesty there. But B is like will they be able to maintain the uptime? And you can kind of see the history of that and you can go and see what the average rewards are. I guess one other thing to note on risks in staking is that there are two mechanisms that work here. One is your staking rewards, which is giving you basically a percentage return, and that it could be 3%, it could be 8%. I think with Ethereum it’s like 4~5%, but there’s also deflation in the currency’s value. So if you’re staking to earn a return, you have to be aware that the value of whatever you’re getting might also appreciate or depreciate. And there may be inflationary pressures as more of these get created, as more tokens get created overall. Or there might be upward or downward pressure depending on if we’re in a bull or bear market and the regular swings of investing.

Q5. How can investors determine which cryptocurrencies are best for staking and how much of their portfolio should they be staking?

So, great question. There are sites you can go to, like stakingrewards.com, that will tell you basically what returns you can expect from staking different types of tokens. The easiest way to stake, and I forgot this, is actually just through exchanges, right? Centralized and decentralized exchanges generally offer staking options, I think Bitrue also can easily connect and provide staking options there. If you’re going to be holding a token, by and large, it makes sense to stake it as well, because the risks of getting slashed are pretty low. Usually, if you’re going through your exchange. You were going to hold onto your exchange anyway, and I’m not advising you to do that or to take your like, that’s a separate discussion. You may as well stake and earn the rewards on that because you’re actually providing a service, and it’s like a pass-through service here.

Q6. With increasing talk on regulation, what are some of the regulatory challenges associated with staking, such as regulatory compliance and taxation?

I mean, the biggest ones are, I think, less taxation because those are things that can be solved and people, and there are services that either exist or will exist to solve them for the different types of staking that are out there. I think really it’s compliance and securities law more than anything. If something needs to be registered as a security, then it significantly changes who’s allowed to kind offer these instruments in the first place and who’s allowed to acquire them and everything around that. We’re seeing different takes: the US currently is being quite harsh, and it’s not harsh from a legislative perspective. It’s from the regulators themselves that we have two different regulators that are each trying to assert their authority.

Well, Kraken wasn’t great because it was kind of doing staking as a service but handling many things internally on its own. So in some ways, it was offering securities versus the US. Specifically, some of the regulars went after them and gave them a $30 million fine, then shut the US. Operations. And that caused a whole bunch of selling of ETH within the US. Specifically for those that were kind of getting out of their positions. But, Coinbase is still up there, and they’re basically saying we’re just connecting people with other providers and services. But ultimately, the regulation isn’t going to come from the regulators. It’s going to come from things going to court, and that’s what’s happening now as well within the US specifically. More sophisticated people will be arguing both sides in court, and hopefully, we’ll come up with reasonable regulations. But on the flip side, we’re seeing like Europe and Hong Kong are being kind of more open and crypto-friendly in their regulatory approach and understanding that there’s value here and that blockchain overall has value to add to society in terms of decentralized applications and the future of technology. So I think for now, it’s a little harder in the US. But these are decentralized technologies, and you can access them anywhere and again, I’m not giving advice one way or the other, and in Asia and Europe, things are looking a little better.

Q7. How does staking fit into the broader cryptocurrency market, and what impact has it had on the industry?

I think it’s critical. There are two ways to look at crypto. One is you look at it as tokens with prices that go up and down, which is how we look at it as investors. But that’s not really what it’s providing here. The purpose of cryptocurrencies is to be tokens that are part of a decentralized platform that is doing something. So whether these are compute layers like Ethereum, Polygon, or whether these are applications themselves, each of these tokens represents something within an ecosystem that is generally providing utility of some sort. Not exclusively, obviously we have currencies, stablecoins, and non-stablecoins.

But in that context, for the entire decentralized application and decentralized ecosystem to run, kind of as I said in the beginning, you need to have people that are allocating their own computing resources to run these applications and to basically support the overall ecosystem because the infrastructure layer, these applications have to run a decentralized infrastructure layer. And Staking really provides the ability for more people to join in being part of this infrastructure and in providing resources, both compute resources and their own token resources, because providing a token and lending that token so that it can help disincentivize fraud is part of how all of this works.

Staking ultimately and moving to proof-of-stake helps create greater decentralization and greater adoption and growth of these infrastructures overall, both by incentivizing more people to participate and more diverse people to participate, which ultimately makes the blockchain ecosystem more viable to begin with and kind of grows the pie and grows the value. You’ll have more applications being built and run on this, and more users will come in and use the applications, and it’s highly supportive and critical to the overall blockchain ecosystem.

Q8. How do you see staking evolving in the future, and what new developments can we expect to see in the coming years?

We’ve actually seen a lot of this evolution fairly quickly. Right? We went from solo stakers, where you could run your validator on your own machine or on a server farm, to exchanges themselves that were offering staking services to pooled staking and liquid staking, where have this third parties, people that are running validators, people that can purchase this token. So, I think the idea behind this is getting more people involved. One of the necessities of staking, especially for new protocols and newer platforms, is that when you have low liquidity and something is brand new, you still need enough people actually to validate and stake and to be part of running that specific protocol itself. So how do you incentivize people to do that? And how do you get people who are perhaps only familiar with Ethereum or Polygon or Solana to stake on these kinds of newer platforms that they may not have heard of? And here we’re starting to see also a lot of innovation, and folks like EigenLayer are allowing the redirecting of staking resources to some of these other protocols and platforms. We’re seeing ways of, I think it’s Obol Labs, who is working on projects to have even more decentralized validators, where you can split up validator keys across multiple parties and have multiparty validators. And again, what that does basically is increase the decentralization, and that ensures that these platforms and protocols continue to have low amounts of fraud, high amounts of trust, and continue to grow.

Q9. Could you tell us a little bit more about the Stanford Blockchain Accelerator and how it works?

Great question. Yeah, we’ve got a ton of projects coming out, and we’re going to have a demo day in a couple of weeks, so I’ll share more information on my Twitter about that. We’d love for you guys to kind of come to the demo day as a virtual demo day, and see the projects that our teams are working on. If you’re looking to support them, if you’re looking to work in the space, awesome. We’d love to have you. Also, learn about them because as they launch and at some point have staking, they’ll need and want your support. So, we’d love for you to get involved in any way you can. I’ll share more information on my Twitter.