What Are Liquid Staking Tokens? A Complete Guide to LSTs

What Are Liquid Staking Tokens?

Liquid staking tokens (LSTs) represent one of the most significant innovations in decentralised finance, solving a fundamental tension that existed since Ethereum's transition to proof-of-stake: the trade-off between securing the network through staking and maintaining liquidity to participate in DeFi. Before liquid staking emerged, users who staked their ETH to validate the Ethereum network had their capital locked — unable to be used for lending, borrowing, or any other DeFi activity. Liquid staking protocols changed this by issuing derivative tokens that represent staked positions, unlocking billions of dollars in previously illiquid capital.

This guide examines how liquid staking works mechanically, the major protocols offering LSTs, the role these tokens play across DeFi, and the risks that come with this additional layer of financial abstraction.

How Proof-of-Stake Creates the Liquidity Problem

Ethereum's proof-of-stake consensus mechanism requires validators to lock up 32 ETH as collateral to participate in block validation. This staked ETH earns rewards (currently around 3-4% APR from consensus and execution layer rewards), but it cannot be used for anything else while locked. For individual users, this creates an opportunity cost, every ETH staked is an ETH that cannot be deployed in Aave, Uniswap, or any other DeFi protocol.

The problem compounds at scale. With over 30 million ETH staked across the network (roughly 25% of total supply as of early 2025), an enormous amount of capital sits idle from a DeFi perspective. Liquid staking protocols emerged to bridge this gap, allowing users to stake their ETH and receive a tradeable derivative token in return that can be freely used across the DeFi ecosystem.

How Liquid Staking Works

The mechanics of liquid staking follow a straightforward pattern. A user deposits ETH into a liquid staking protocol, which pools the deposits and uses them to run Ethereum validators. In return, the user receives a liquid staking token, such as stETH from Lido, rETH from Rocket Pool, or cbETH from Coinbase, that represents their claim on the staked ETH plus any accrued staking rewards.

These LSTs exist as standard ERC-20 tokens on Ethereum, meaning they can be transferred, traded on decentralised exchanges, used as collateral in lending protocols, or deposited into liquidity pools. The underlying staked ETH continues earning validator rewards, and this yield is reflected in the LST, either through a rebasing mechanism (where the token balance increases over time, as with stETH) or through a value-accruing mechanism (where the token's exchange rate against ETH increases, as with rETH and cbETH).

Rebasing vs. Value-Accruing Models

Understanding the difference between these two models is important for users navigating the LST landscape. Rebasing tokens like Lido's stETH automatically adjust the holder's balance to reflect staking rewards. If you hold 10 stETH and the staking reward for the day is 0.01%, your balance increases to 10.001 stETH. The exchange rate between stETH and ETH stays approximately 1:1, and rewards appear as additional tokens in the holder's wallet.

Value-accruing tokens like Rocket Pool's rETH work differently. The token balance stays constant, but the exchange rate between rETH and ETH increases over time. If 1 rETH was worth 1.05 ETH six months ago and staking rewards have accrued, it might now be worth 1.07 ETH. Users receive the same economic value either way, but the accounting differs, which can have implications for tax treatment, DeFi composability, and how the tokens interact with smart contracts that may not natively support rebasing tokens.

Major Liquid Staking Protocols

Lido Finance is the dominant liquid staking provider, controlling approximately 28-30% of all staked ETH. Lido operates a curated set of professional node operators who run validators on behalf of depositors, and it issues stETH as its liquid staking token. Lido's scale gives stETH deep liquidity and broad integration across DeFi, but its market dominance has raised decentralisation concerns within the Ethereum community.

Rocket Pool takes a more decentralised approach, allowing anyone to run a validator node with just 8 ETH (compared to the standard 32 ETH requirement) by matching node operator deposits with deposits from regular users. Its rETH token is generally considered more decentralised than stETH, though it has less liquidity and fewer DeFi integrations. Coinbase's cbETH provides a centralised alternative with the backing of a regulated exchange. EtherFi differentiates itself by offering non-custodial liquid staking where stakers retain control of their validator keys, and its eETH token has grown rapidly since launch.

LSTs in the Broader DeFi Ecosystem

Liquid staking tokens have become foundational building blocks across DeFi. On lending platforms like Aave, users can deposit stETH or rETH as collateral to borrow other assets, effectively earning staking yield on their collateral while simultaneously accessing borrowed capital. This creates layered yield strategies that were impossible before liquid staking existed.

On decentralised exchanges, LST/ETH liquidity pools enable users to swap between staked and unstaked ETH, providing an exit mechanism for those who do not want to wait for the Ethereum unstaking queue. These pools also generate trading fees for liquidity providers, adding another yield layer on top of staking rewards.

The emergence of liquid restaking through protocols like EigenLayer has added yet another dimension. Users can take their LSTs and restake them to secure additional networks or services (called Actively Validated Services), earning additional rewards. This has led to the creation of liquid restaking tokens (LRTs), derivatives of derivatives, from protocols like EtherFi (weETH), Renzo (ezETH), and Kelp (rsETH), further expanding the composability of staked capital.

Risks and Considerations

Despite their utility, liquid staking tokens introduce several layers of risk that users should carefully evaluate. Smart contract risk is the most fundamental, each liquid staking protocol relies on complex smart contracts to manage deposits, validator operations, and token issuance. A vulnerability in any of these contracts could result in loss of funds. While major protocols like Lido and Rocket Pool have undergone extensive audits, the risk is never fully eliminated.

Depeg risk is a significant concern specific to LSTs. While stETH or rETH are designed to closely track the value of ETH, they can trade at a discount during periods of market stress. This occurred notably in mid-2022 when stETH temporarily traded at a 5-6% discount to ETH during the Three Arrows Capital and Celsius crisis. For users holding LSTs as collateral in lending protocols, a depeg can trigger liquidations even if the underlying ETH price has not changed.

Slashing risk exists at the validator level, if a node operator running validators for a liquid staking protocol behaves maliciously or experiences significant downtime, the staked ETH can be slashed (partially confiscated) by the Ethereum protocol. This loss would be socialised across all holders of that protocol's LST. Centralisation risk is also a factor, particularly with Lido's dominant market share, if a single protocol controls too large a percentage of staked ETH, it could theoretically influence Ethereum's consensus mechanism.

Finally, the layered composability of LSTs (staking plus lending plus restaking) creates compounding risk. Each additional layer adds its own smart contract risk, oracle risk, and liquidity risk. A failure at any layer can cascade through the stack, potentially amplifying losses beyond what users might expect from any single protocol failure.

Exploring Liquid Staking via Portals.fi

Portals.fi is a DeFi aggregation platform that provides access to various liquid staking protocols and their tokens through a unified interface. Users can explore different LST options, compare staking yields, and interact with liquid staking protocols alongside other DeFi activities, all from a single platform. This can simplify the process of evaluating and accessing different liquid staking solutions across the ecosystem.

For more information about how Portals.fi works, visit portals.fi.

This article is for informational purposes only and does not constitute financial advice. DeFi protocols carry inherent risks including smart contract vulnerabilities, liquidation risk, and market volatility. Always conduct your own research before interacting with any protocol. For our full disclaimer, please visit here.