Leveraged staking and lending in crypto money-markets
A practical guide to using Aave and Lido Finance to enhance your Ethereum yields (and more!)
Do you want to learn how OG crypto users trade their cryptocurrencies? Well, you are in the right place.
By reading this article you will learn a simple strategy that allows you to leverage the rebasing rate of Ethereum while lending on Aave with little price risk and essentially earn ETH while securing the network. Most importantly you will learn how to think like trading firms with large AuM$ (3AC, GSR, Alameda, etc).
The trade is called “leveraged staking”, so take out your MetaMask out and follow me for trip in Ethereum land, although keep in mind that the same trade can be done on any borrowing/lending platform and on other chains too.
We are using Aavesome a lending borrowing platform created in 2017 by Stani Kulechov that has amassed a gigantic 20B $ in TVL. Aave works as a group of lending pools where user can lend and borrow different crypto-assets, when borrowing you can pick either fixed or variable rate It is currently managed by a DAO.
We are using Lido Finance for liquid staking Ethereum, what does it mean? Lido allows users to stake any amount of ETH and receive a ETH IOU (stETH) that accrues value and that can be used in DeFi without missing out the opportunity cost of not staking. stETH rewards are accrued on a daily basis and you can hold it in your MetaMask wallet or on some centralized exchanges (FTX — Cryptocurrency Derivatives Exchange allows you to hold stETH).
Below you see the rebase reward of 1 stETH on FTX, some rough calculations result in 4.40% yield on ETH without any effort. This is supposed to increase to 10–15% once the shift to POW to POS goes live.
Or you can use your stETH in DeFi to boost the yield even more, let’s start! There are multiple degrees of this strategy and you can loop through it multiple times. I will do it only once as the main objective of this article is to make you understand the main ideas behind “leveraged staking”
I create a fresh account so all costs and transactions to do are very clear for you and I’ll be sure to mark which are ONE-TIME only fees and which are “recurring” costs. In the final part of the thread/article I will also focus on the risks associated with this trade.
The trade setup
- Have some ETH available and stake them on Lido Finance, you will receive back stETH. I deposit 10 ETH and receive back 10 stETH. Add stETH to your Metamask or whatever wallet you are using.
2. Head over to Aave (https://app.aave.com/). There are different chains available, I’m using the standard Ethereum chain although the trade can be done on any lending/borrowing platforms.
3. Find stETH and click on SUPPLY, then deposit your stETH.
Three transactions are required here, the first transaction is used to give permission to Aave to access your stETH and it’s a one-time only tx. The second transaction is the actual stETH deposit on Aave and I deposit the 10 stETH. With the third transaction we are approving the delegation of those stETH to Aave so they can really be used as collateral, also this tx this is required only once.
4. Available balance now shows 10 stETH, nice! Don’t worry if the APY on the screen is zero, that’s because nobody is actually borrowing stETH (yet), but in the background you are earning the ETH rebasing reward and that’s where the juice comes in.
5. We have 10 stETH available as collateral and earning rewards, what’s the next step now? Well, let’s borrow ETH using as collateral stETH. Given that we are borrowing ETH against the same asset (stETH) there’s is very little liquidation risk.
Furthermore, our stETH balance keeps growing daily thanks to the rebase.
6. Borrow ETH. ETH has a maximum LTV of 82.5% which means you can borrow up to 0.825ETH for each stETH deposited. I prefer to be more conservative and borrow less, around 65% . Also — very important — Aave allow you to pick between “Variable” and “Stable” rate. The variable rate is the rate based on the offer and demand in Aave (market rate). The “Stable” rate is less volatile, it can be locked for several days however it is much higher. Pick the “Variable” rate.
7. My current balance on Aave is now:
- ASSETS 10 stETH
- LIABILITIES 6.5 ETH
And we have 6.5 ETH on our wallet
8. Can you guess what is the next step? You got it right, take the ETH you just borrowed from Aave, stake on Lido, and then deposit the new stETH again on Aave. This is how the position looks like after the first loop.
And this is how my current LTV is 39.40% which is exactly the ratio between 6.50 ETH and 16.50 stETH. We are very far from the liquidation threshold, does that mean we can repeat the cycle once more? YES.
This is a simulation of how your assets and liabilities grow assuming that every time you borrow and stake 65% of your available balance. You can see that after some transactions the LTV converges to 65%. Pay attention to transaction fees though, every time you loop one cycle you are making several transactions.
So what is our total return after we repeat several times? We are squeezing 8.20% out of the 4.40% Lido Finance rebasing rate, see the image below.
What to do now? Sit back and relax, you are now receiving stETH every 24 hour from the rebasing reward. 8.20% is not bad as we do not have any directional risk, but how high can this number go? Let’s understand where the yield comes from.
The yield is made of three components: LENDING RATE + REBASING RATE + LIQUIDITY MINING.
- Lending rate is 0% as users can use stETH only as collateral
- Rebasing rate is currently around 4.40%
- There’s no liquidity mining currently on stETH (but maybe LDO will add some?)
Let’s run the same analysis as before but assuming ETH is now POS (15%) and that we also have a 5% token reward (LDO or AAVE) and let’s say we want to reach a 70% LTV level. Well, the yield is now more than 40%!
For your convenience I made a simple tool to play around with the numbers and understand how returns change when you modify some parameters such as LTV, interest rates, etc. You can find it here -> https://docs.google.com/spreadsheets/d/1QYZqP4cGKyCIGxMiK_AMcGtF5YPgFmuWm4iFJnCNczo/edit?usp=sharing
main risks associated with this strategy
1) Interest rate risk: As soon as the yield coming from “Lending Rate + Rebasing Rate + Liquidity Mining > Borrowing Rate” you are good and can sleep safe. If the opposite happens and persist you might have to unwind the position.
2) Oracle risk: your TVL depends on the ratio between the value of your assets and your liabilities. Their value depend on the price feed which are provided by oracles or AMM (such as Chanlink and Uniswap). If — for any reasons — the oracles relay an incorrect price such that the value of your collateral/asset is too low OR such that the alue of your liabilities is too high, your position might get liquidated.
As usual when trading you need to be aware there are two levels of risks: known risks (which we can hedge) and unknown risks (by definition we can do less against it).
Conclusions
You just learned how to lever up your position on a lending platform and multiply the rebasing/staking reward.
This trade can be done on any borrowing/lending platform and on other chains too using any assets which can be staked, for example #solana — and you might find it cheaper to implement.
According to my research, this trade can be done on some platforms to squeeze yields as high as 150%. I let the reader find out which and how, you will have fun :-)
DISCLAIMER: WE OR A COMPANY OR PERSON CONNECTED OR ASSOCIATED WITH US HOLD A LONG POSITION AS A PRINCIPAL IN AAVE, LDO AND ETH. ALSO YOU MIGHT LOSE YOUR SHIRT WHEN TRADING SO BE SURE TO UNDERSTAND WHAT YOU ARE DOING BEFORE TRADING.
