The explosion in popularity of liquid staking is easily explained by the compelling proposition it offers: access the benefits of traditional staking (earning rewards) while maintaining some control over your assets (through tradable tokens). While liquid staking unlocks a world of potential yield, it's crucial to understand the risks involved and what the protocol you choose to stake your assets in is doing to mitigate them.
In this article, we are going to explore the most common risks associated with liquid staking and what Sceptre is doing to ensure the safety of your assets.
What is Liquid Staking?
In essence, traditional staking involves locking up your crypto assets to support a blockchain network and, in return, you earn rewards – a win-win situation. However, there's a catch: those locked-up assets are inaccessible until the staking period ends, a lack of flexibility that can be a major turnoff for some people.
Liquid staking solves this by issuing derivative tokens representing your staked assets. In the case of Sceptre, those tokens are sFLR (Sceptre Staked Flare), which can be traded or used in DeFi applications across the Flare Network. Liquid Staking is an essential part of the infrastructure of a proof of stake blockchain network. Without it, liquidity is stuck.
What are the risks of Liquid Staking and how is Sceptre reducing them?
While convenient, liquid staking introduces risks you should be aware of:
Smart contract risks
Liquid staking relies on complex programs called smart contracts, but even the best code can have vulnerabilities. These vulnerabilities could be exploited by malicious actors to steal your staked assets directly, lock them away, manipulate reward distribution, or even disrupt the entire protocol. That being said, reputable liquid staking providers take steps to mitigate these risks, such as commissioning security audits by independent firms.
Sceptre’s sFLR Smart Contract was audited by independent smart contract auditors WATCHPUG, a leading security firm with extensive smart contract expertise. The full audit report is now publicly available here. In addition, we have two security partners Ledger Works and Hypernative that help us monitor our smart contracts and the network for potential risks.
Custodian dependence
Unlike traditional staking where you control your assets directly, most liquid staking providers hold onto your original staked assets. While these providers often have strong security, there's an inherent risk. If a provider faces a security breach, financial troubles, or regulatory issues, your staked assets could be impacted in different ways.
In order to tackle this, we monitor Sceptre contracts and the Flare Network with Hypernative. Unlike traditional security measures that react to attacks, Hypernative takes a proactive approach. It uses machine learning to analyze on-chain and off-chain data to identify potential security risks, economic threats, and governance issues before they cause damage, which allows us to take early action and prevent losses.
Validator issues
Proof of stake networks rely on validators to secure the underlying blockchain. These validators can be slashed by the network they operate in for bad behavior like downtime or network violations. In the case of the Flare Network, that means the slashing of the rewards distributed to validators which, in turn, are distributed to the users staked on those validators (a user’s staked principal is unaffected).
A golden rule of finance is “don’t put all your eggs in one basket”, and when you stake with Sceptre, you are following that rule without even noticing it. In order to reduce the risk of validator issues, we spread the assets on Sceptre across around 50 nodes, picked by our service following rigorous criteria. If you want to see the list of nodes you can click “Staking Information” on the Staking tab under the Stake button. If, for whatever reason, one of those nodes becomes problematic and is penalized by the Flare Network, the risk of our users missing out on rewards will be minimal. A single wallet can only stake on up to 3 nodes on the Flare Network so by staking with Sceptre you’ll be reducing the risk of picking the wrong validator to a minimum.
Liquidity
Traditional liquid staking often comes with an unstaking period that can lock you in. This can be a problem if you need to sell your assets unexpectedly.
With Sceptre, you have more flexibility. There's a 14.5-day waiting period for unstaking during which you’re still earning rewards. However, if you’re in a real hurry, instead of waiting, you can swap your staked sFLR directly for regular FLR tokens on BlazeSwap, Sparkdex, or Ēnosys DEX. While you’ll miss out on rewards, this allows you to access your assets faster.
Mitigating the Risks
While these risks aren't dealbreakers, they are important to consider before jumping into liquid staking. By understanding these potential pitfalls, you can make a more informed decision about whether the convenience outweighs the potential risks for your staking strategy. Here are some steps you should take to navigate the space safely:
Research Providers
Don't settle for the first platform you come across. Dig deep! Look for providers with a proven track record in the industry, a commitment to security audits by reputable independent firms, and a transparent approach to their operations. Reviews from trusted sources and community feedback can also be valuable.
Diversify!
Don't put all your sFLR in one basket. Consider using multiple protocols when using it. This way, if one experiences an issue, your entire portfolio isn’t affected.
Stay Informed!
The world of blockchain is constantly evolving. Make it a habit to stay updated on the latest developments in liquid staking, particularly regarding potential security threats and emerging best practices. Reliable sources include research reports from established firms, security blogs from reputable experts, and official announcements from the protocols themselves.
We hope this information has been helpful in understanding liquid staking. If you'd like to delve deeper into secure staking practices, our article “How to safely stake on DeFi” offers a valuable resource.
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