$26 Billion Supply Shock Coming to Ethereum?
Analyzing the potential impact EIP-4895 on the ETH market
The Ethereum ecosystem is bracing for a potential major supply shock. For the first time in over two years, stakers will have the option to unlock over 16 million ETH (appr. $26 billion) staked in Ethereum's consensus layer, Beacon Chain.
The unlock feature is one of the key rollouts of Ethereum's Shanghai upgrade scheduled for March 2023. With Ethereum's upcoming upgrade now less than a month away, this release of the Adaptive Analysis Newsletter breaks down the potential implications of the upcoming upgrade.
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Shanghai upgrade beckons for Ethereum
The Shanghai upgrade is arguably the most widely anticipated Ethereum ecosystem event following the network's successful migration from a proof-of-work (PoW) consensus mechanism to a Proof-of-Stake (PoS) model last September. The upgrade includes many key proposals, the most notable being Ethereum Improvement Proposal 4895 (EIP-4895), which will allow validators to unlock staked ETH and accumulated rewards associated with staking.
Validators have had the option to stake ETH since December 2020, when the Ethereum developer community rolled out the Beacon Chain. Since then, the number of staked ETH has grown significantly to around 16 million ETH (approximately $26 billion) at the time of writing. Yet, the staking process has remained one-way traffic, with validators and stakers only able to deposit (but not withdraw any funds deposited into the Ethereum staking contract). That is about to change with the Shanghai upgrade.
Will the price of ETH rise or drop post-Shanghai upgrade?
There is natural speculation that the upcoming Shanghai upgrade could be the catalyst for a sharp decline in staked coins on the Ethereum network and, as a result, a massive amount of ETH flooding the market in search of buyers. Such speculation is linked mainly to on-chain evidence revealing a sizeable portion of ETH stakers in profits and new regulatory developments, which we’ll detail herein.
The second-largest cryptocurrency was trading at around $600 when staking opened on Beacon Chain in December 2020. With a price above $1,600 at the time of writing, early stakers are sitting on over 100% profits, plus accrued staking rewards. It is noteworthy that only 3.25 million ETH (appr. $5.3 billion) was deposited within the ETH staking contract between December 2020 and February 2021, when the price of ETH rose above its current market value. That means the vast majority of staked ETH (~80%) is currently trading above the market value at which it was deposited.
ETH staking contract received 3.5 million ETH below current prices (Source: Etherscan)
This portion of the staked supply may hit the market if investors try to book profits post-Shanghai upgrade. However, such an outcome seems increasingly unlikely, given the market remains at new cycle lows. ETH is trading more than 66% below its all-time high (around $4,900), leaving these long-term holders with a seemingly sizeable upward-than-downside potential.
Accrued staking rewards are another portion of staked supply that could go into circulation. Post-Shanghai validators can create a "withdrawal credential," granting access to rewards accrued over the past three years. Accrued staking rewards on Beacon Chain currently total 1.023 million ETH (appr. $1.7 billion). A fraction of this newly-issued ETH supply may also hit the market if most validators choose to withdraw and distribute staking rewards to clients.
It is hard to estimate the potential market impact given no blockchain has had an event similar to the upcoming Ethereum staking unlock. However, the possibility of all in-profit ETH positions (post-Beacon Chain release) and accrued staking rewards hitting the market is enough to keep investors on their toes.
New regulatory action potentially barring centralized exchanges like Kraken and Coinbase from offering staking products to retail customers in the United States also creates more uncertainty. It could lead to more investors exiting their staked ETH position when the Shanghai upgrade is completed. Coinbase and Kraken contribute over 20% of the total staked ETH on Beacon Chain, although the figure does not accurately represent the total number of U.S. customers staking on these platforms.
As the Shanghai upgrade approaches, the value of open interest on Ethereum futures and perpetual contracts could offer clearer insights into ETH’s price short-term movement. As it stands, the majority of funding rates for perpetual derivatives markets in Ethereum have been positive, suggesting that buyers still outweigh sellers in ETH markets. However, some funding rates have been dipping slightly, which could exacerbate further as the Shanghai upgrade draws closer.
It is impossible to predict how stakers will behave when the possibility opens for them to unlock their staked funds. Those that may need to meet expense obligations amid the harsh economic conditions of the past year may be likely to book their profits and cash but there will undoubtedly be a high portion of stakers who will continue their validator role and keep their portion of supply locked.
Crypto market spotlight:
Kraken settles SEC charges for $30m over crypto staking service: Popular crypto exchange Kraken reached a $30 settlement with the United States Securities and Exchange Commission (SEC) following allegations that its crypto staking service for retail investors constituted an unregistered securities offering.
Tether reports $700 million profits and over-collateralized reserves: A new independent audit report confirms that Tether generated $700 million in profits during the last quarter of 2022 while its assets exceeded liabilities by around $960 million.
Binance temporarily pauses USD withdrawals: Binance announced on February 6 that it is temporarily suspending USD deposits via bank transfers. The exchange reportedly has issues with a banking partner and will work on resolving the problem promptly.
Dubai releases new regulations for virtual asset providers: The Dubai Virtual Asset Regulatory Authority (VARA) has released new rules for crypto-related service providers, further strengthening the region's friendly stance towards the emerging industry.
LocalBitcoins shuts down after ten years in business: Finland-based peer-to-peer cryptocurrency exchange LocalBitcoins is shutting down its platform, citing harsh conditions linked to the ongoing crypto winter.
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