Liquid staking and its risks – Solana in depth

In this lesson

understand how a staking token works and why its rate to SOL rises
find out how to turn it back into SOL – fast or cheap
learn the risks that native staking does not have

Native staking has one downside: your SOL is locked and you wait days to get it back. Liquid staking promises both – the staking yield and the option to sell at any time. It works like a theatre cloakroom: you hand in your coat and get a ticket. And the ticket can be sold, lent or put somewhere else.

Liquid staking gives you a ticket for your SOL. Just note that in a panic it sells at a discount.

How it works#

With liquid staking you put SOL into a stake pool (a protocol). The pool spreads it across validators and gives you a staking token – on Solana, for example jitoSOL or mSOL, mentioned only as examples.

The number of staking tokens you hold does not change. What rises is their rate to SOL, because the pool keeps receiving rewards. Example: you deposit 10 SOL at a rate of 1 token = 1.20 SOL and get 8.33 tokens. A year later the rate might be 1.27 SOL, and your 8.33 tokens are worth 10.58 SOL. Sample numbers.

The way back to SOL#

Fast: you sell the staking token for SOL on an exchange. Immediately, but at the market price – usually a little below fair value, and with slippage.
Cheap: you ask the pool to unstake and wait until the end of the epoch. You get the fair value but wait just like with native staking.

The extra risks#

A bug in the contract. The pool is a program. A bug or an attack can put all deposited SOL at risk.
A discount to fair value. In a panic everyone wants out at once and the staking token sells at a discount on exchanges. It happened on Ethereum in June 2022: staked ETH traded about 6% below ETH. Whoever had to sell right away sold at a loss.
Pool fees. The pool takes a percentage of the rewards – on top of the validators' commission.
Leverage on leverage. A staking token can be posted as collateral, SOL borrowed against it, that SOL staked again, and so on. The yield multiplies – and so does the risk. When the staking token falls below fair value, liquidation can follow.
Concentration. Big pools concentrate stake with selected validators. That may not be good for the network's decentralisation.

Layers of yield = layers of risk

Every extra layer – a staking token, a loan, more staking – adds yield and another place where something can go wrong. A higher percentage on the screen does not mean you will get more. It means more can go wrong.

Common myths#

"A staking token is always worth SOL plus rewards." On an exchange it can sell at a discount.
"Liquid staking is safer because I can sell any time." You can sell, but not always at a fair price – and contract risk is added.
"A leveraged staking loop is free extra yield." It is leverage with everything that comes with it.

Summary

Liquid staking: you put SOL into a pool and get a staking token whose rate to SOL rises.
Back to SOL fast (sell on an exchange at a discount) or cheap (unstake and wait).
Extra risks: contract bugs, discounts in a panic, pool fees, leverage and concentration.
Every layer of yield adds a layer of risk.