By 2021, proof of stake (PoS) was anchored as the consensus mechanism of choice for new and innovative blockchains. Ethereum 2.0, Cardano, Solana, Polkadot, Terra Luna – Five of the top 10 base layer blockchains run on PoS. It’s easy to see why PoS blockchains are popular: the ability to put tokens up and running (verify transactions and get a reward in the process) allows investors to earn passive returns while improving the security of the network. blockchains in which they had invested.
While blockchains make incredible progress, financial products and services available to institutional investors struggle to keep up. Of the 70 publicly traded products (ETPs) on the market, for example, 24 represent ownership of the share tokens, but only three get a share return. ETP holders not only lose their gambling performance, but pay, on average, between 1.8% and 2.3% in management fees.
However, this lack of participation in ETP is understandable, as the participation mechanism requires tokens to be locked for periods that can vary from days to weeks, adding complexity to a product intended to be easily tradable on exchanges.
Related: Staking Will Consume Trial Of Work For Breakfast – Here’s Why
Losing your staking yield means keeping an inflationary asset
For PoS token investors, losing betting performance is more than a missed opportunity – it results in owning a highly inflationary asset. Because the performance paid to bettors is primarily made up of new tokens, any unkept portion of tokens is continually reduced relative to the total supply. What explained In an article by Messari, wagering rewards do not represent wealth creation, but rather a distribution of wealth, from passive holders to gamblers.
The irony here is that many of these institutional investors who are passively holding PoS tokens originally started investing in the digital asset space to hedge against inflation in real-world assets, and are now experiencing even higher rates of inflation on their PoS tokens. .
According For Staked, the average supply inflation rate for the top 25 PoS tokens is around 8%, which is well above real world figures. Meanwhile, token bettors earn returns above the inflation rate, as the rewards are made up of not only newly created tokens but transaction fees as well. On average, bettors earn 6.4% per year in actual performance. The contrast is clear: passive holders suffer 8.2% inflation on their investment, potentially paying another 1.8% –2.3% in management fees if they invest through an ETP, while investors earn an 6.4% in real returns.
Related: Staking Ethereum 2.0: A Beginner’s Guide to How to Bet ETH
Investors must participate in blockchains in addition to owning them
The value of a blockchain network comes from its ability to act as a settlement layer, securely adding new transactions to the decentralized ledger. This capacity depends on the participation of the generalized and decentralized network; therefore, a PoS blockchain is only as secure as the number of tokens being staked, and essentially goes to work verifying transactions. Passively holding PoS tokens and not gambling them detracts from the value of the network, which is out of line with investors’ interests.
Unfortunately, this means that the growth of assets under PoS ETP management will account for a declining share of the token supply being staked, along with less secure blockchains. As institutional capital flows into ETPs from passive PoSs, the portion of total supply that is being wagered falls, increasing participation incentives and worsening inflationary effects for passive holders. If institutional investment is going to drive the growth of the PoS token markets, you will need to participate in the networks as well as own them.
Abstraction from blockchain complexity is difficult, but possible
It is true that gambling is not an easy exercise. It involves running a secure infrastructure and constant uptime, with very little margin for error, making sure to comply with the rules of the blockchain network. Fortunately, today there are many competent validators with excellent backgrounds, who will do the job of betting in exchange for a portion of the reward. Fundamentally, validators can stake tokens without taking custody of them and as such, the best way for an institutional investor to stake their assets may be with a validator, from within a custodian account.
Ultimately, buying PoS tokens but not gambling them is the modern equivalent of shoving cash under the mattress. It doesn’t make fiscal sense in the long run. Participating in gambling allows institutional investors to add PoS tokens to their portfolios without suffering the effects of inflation, while at the same time benefiting from the security and value of the underlying blockchain of crypto.
This article does not contain investment advice or recommendations. Every trade and investment move involves risk, and readers should do their own research when making a decision.
The views, thoughts and opinions expressed here are those of the author alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.
Henrik Gebbing is co-CEO and co-founder of Finoa, a European digital asset custody and financial services platform for institutional investors and corporations. Prior to founding Finoa, Henrik worked as a consultant at McKinsey & Company, serving financial institutions and high-tech companies around the world. He started his career with a double degree in the high-tech branch of Siemens AG.