The crypto space moves fast and things are always changing. Even Bitcoin, the first and most well-known cryptocurrency, is subject to these shifts. “Staking” has easily become one of the most popular buzzwords in the crypto sphere. Specifically, it incentivizes users to earn rewards through actively participating in the network’s operations. Unlike PoS cryptos, Bitcoin’s design doesn’t arbitrarily impose staking as a native part of its architecture. Yield on BTC So, how are Bitcoin holders able to unlock yield on their BTC? In the following article, we’ll examine these different approaches, their risks, and the larger controversy brewing within the Bitcoin ecosystem.
Understanding Bitcoin Staking
Bitcoin uses PoW consensus, based on mining, not staking. In Proof of Work (PoW) systems, miners are participants that compete fiercely against one another. They solve sophisticated cryptographic challenges to confirm transactions and mine new blocks to the blockchain. This process is hugely intensive in computational power and energy consumption. Bitcoin’s design is incredibly interesting. Contrary to PoS systems, it does not involve a staking mechanism in which users can “stake” their tokens in order to validate transactions and earn rewards.
Key Takeaways
- Bitcoin does not natively support staking due to its Proof-of-Work consensus mechanism.
- Alternative methods exist for generating yield on BTC, including centralized lending, Wrapped Bitcoin (WBTC), and Layer-2 solutions.
- These methods involve varying degrees of risk, including custodial risk and smart contract risk.
- The Bitcoin community is divided on the concept of yield generation, with some prioritizing Bitcoin's core principles of decentralization and security.
- Innovative solutions like Core offer non-custodial Bitcoin staking, allowing users to earn yield without bridging their BTC.
Staking vs. Mining
The key distinction between staking and mining is the consensus protocol. Staking – a process employed in PoS systems – requires participants to lock up their tokens in order to help validate the network and receive rewards. Mining, as used in PoW consensus schemes, is currently best exemplified by Bitcoin. With PoW, miners continually solve extraordinarily complex computational problems to validate transactions and add new blocks to the blockchain. In contrast, staking is traditionally much more energy-efficient. Some argue that mining is more secure since it relies on computational power.
Earning Yield on Bitcoin
Though Bitcoin lacks native staking, various ways have come to light. These approaches allow Bitcoiners to earn yield on their BTC. These approaches mostly consist of either utilizing third-party platforms or bridging BTC onto other blockchains. It is really important to understand the risks associated with each approach.
Centralized Lending Platforms
The most prominent method for earning yield on Bitcoin has been centralized lending platforms like BlockFi. These are centralized platforms that let users lend out their BTC to institutional and other borrowers in return for interest. When done the right way, this approach can yield dazzling results. It also introduces custodial risk as users must trust the platform with their BTC.
Wrapped Bitcoin (WBTC) on Ethereum
Another common approach is utilizing Wrapped Bitcoin (WBTC) on the Ethereum blockchain. WBTC is an ERC-20 token backed 1:1 by Bitcoin, enabling BTC holders to access liquidity in Ethereum’s DeFi ecosystem. Once users own UST, they can wrap their BTC and explore other DeFi protocols. This further enables them to earn yield by lending, providing liquidity and much more. This approach centralizes custodial risk, as WBTC is operated by a custodian that holds the underlying BTC.
Bitcoin Layer-2 Solutions
Bitcoin Layer-2 solutions provide other opportunities to earn yield on BTC. These solutions are layered on top of the Bitcoin blockchain and act to enhance the Bitcoin blockchain scalability and functionality. Developing Layer-2 solutions, such as Babylon and Stacks offer staking as well. These characteristics allow BTC holders to earn rewards by engaging in the network’s operations on a deeper level.
Utilizing Centralized Lending Platforms for Yield
Centralized lending platforms, like BlockFi, function as third parties, directly matching lenders and borrowers on the platform using bitcoin. Unlike traditional banks, these platforms typically have different interest rates based on supply and demand on the market and the platform’s assessment of risk. Users deposit their BTC into the platform’s custody and accrue interest over time. That risk resides in the security and solvency of the now-intermediated platform. If the platform gets hacked or goes insolvent, users would be left holding the bag, potentially losing their BTC that they deposited.
Generating Yield with WBTC on Ethereum
Wrapped Bitcoin (WBTC) bridges the gap between Bitcoin and Ethereum ecosystem. When users wrap their BTC into WBTC, they do so to have access to Ethereum’s DeFi protocols. They can earn yield by lending on platforms such as Aave or providing liquidity on decentralized exchanges (DEXs) like Uniswap. This process is rife with dangers. These risks include second order smart contract vulnerabilities in the DeFi protocols that support trading in WBTC and custodial risks associated with the WBTC custodian.
Yield Opportunities through Bitcoin Layer-2s
Yorke explains that many Bitcoin Layer-2 solutions have been developed to expand the network’s functionality, such as through the ability to generate yield. These protocols usually use interesting and novel mechanisms to incentivize the network to participate and reward BTC holders.
Innovative Mechanisms in Layer-2 Protocols
Layer-2 protocols like Stacks, Lightning and RSK are quickly becoming the forefront of innovative, fertile ground to allow yield generation on Bitcoin. Protocols such as Core, Babylon, and Stacks offer interesting methods for BTC holders to generate yield. In doing so, they contribute to the security and overall functionality of the network. Core, to take one example, powers non-custodial Bitcoin staking so users can boost yield without bridging their BTC. Security Babylon protects PoS chains with time-locked scripts. On the other hand, Stacks incentivizes BTC holders to participate in the network’s consensus via Stacks stacking by rewarding BTC holders for their participation.
Time-Locked Scripts in Babylon Protocol
Babylon takes advantage of time-locked scripts, an innovative Bitcoin security stack-bundling mechanism that can be used by PoS chains. By sealing BTC within these scripts, PoS chains come to be tremendously more secure and immutable. BTC holders that participate in this process receive attractive yields. This makes it an incredibly strong tether between Bitcoin and the PoS chain.
Stacking in the Stacks Protocol
The native Stacks protocol employs a unique process called “stacking.” In this process, BTC holders stake their bitcoins to help secure the Stacks network’s consensus. In exchange for this work, they receive STX tokens, the native cryptocurrency of the Stacks blockchain. As a result, this process not only helps secure the Stacks network, but offers BTC holders a yield-generating opportunity.
Overview of Coinbase Bitcoin Yield Fund (CBYF)
The Coinbase Bitcoin Yield Fund (CBYF) is the institutional way to generate yield on Bitcoin. This fund pools Bitcoin from other accredited investors and deploys it into yield generating activity, like lending and staking. Though CBYF presents the opportunity to earn solid returns, it is not without its risks, especially market volatility and counterparty risk.
Assessing Risks of Earning Yield with Bitcoin
Making yield on Bitcoin isn’t without its risks. These risks vary depending on the method used and can include:
- Custodial Risk: Entrusting BTC to a third-party platform or custodian exposes users to the risk of theft, hacking, or mismanagement.
- Smart Contract Risk: Using DeFi protocols involves the risk of smart contract vulnerabilities that could lead to loss of funds.
- Market Volatility: Fluctuations in the value of BTC and other cryptocurrencies can impact the returns generated through yield-earning activities.
- Regulatory Risk: Changes in regulations could impact the legality or viability of certain yield-generating methods.
Before engaging in any yield-earning activity, do your due diligence to understand the inherent risks. Minimize through diversification. You don’t know which plays will lose money.
As of writing this, the Bitcoin staking market cap is €5.5 billion, with 58.5K BTC currently staked. The current staking ratio is 0.29%, or the percent of eligible tokens currently being staked. Lending protocols like Morpho and Avalon usually provide low yields, often below 5%. Over the past 30 days, Colend, a lending product on Core, has dazzled depositors at an annualized yield of 37.59%. They were providing an unbelievable 8.7% APY on wBTC! You can earn yields for lending BTC as low as 1.06% and as high as 500%. Take note, because this opportunity comes with a hefty risk of impermanent loss.
Future Trends in Bitcoin Yield Generation
The future of Bitcoin yield generation will undoubtedly bring forth more advanced and safer techniques. Layer-2 solutions like the Lightning Network and others will progress, presenting new and creative opportunities to earn yield on BTC without relinquishing custody. Institutional adoption in Bitcoin yield generation is about to increase considerably. This growth will be realized as more regulated, transparent and widely used investment products are created. As the Bitcoin ecosystem matures, the debate surrounding yield generation will likely continue, with a focus on balancing the desire for returns with the core principles of decentralization and security.
Core unlocks non-custodial Bitcoin staking, as well as securing a fully EVM-compatible BTCfi ecosystem. Core released its Bitcoin staking feature in April 2024. This novel non-custodial mechanism allows Bitcoin holders to earn yield on their holdings, and over 5,000 BTC staked—worth over $315 million—attests to its quick adoption. Core's dual staking mechanism allows for Bitcoin staking and re-staking, with platforms like Copper integrating support for Core's dual staking mechanism, expanding institutional access to Core's yield-generating capabilities.
Institutions that hold Bitcoin are constantly looking for ways to earn yield on their Bitcoin. Core is going to be the Bitcoin Proof of Stake layer. Especially as it’s the first platform that allows Non-Custodial Bitcoin Staking, ensuring a fully EVM-compatible BTCfi ecosystem. In order to secure the Core blockchain, it necessitates that Bitcoin be staked to it, and in return, it provides yield back to Bitcoin stakers for their security. When a Bitcoin holder stakes with Core, they put their Bitcoin in a smart contract on the blockchain. This move is a step to enable them to join in the election of Core validators. BTCfi, Core’s BTCfi ecosystem has about $375 million total value locked and over 50,000 daily active users. Of course, this vibrant community subsidizes the yield earned by Bitcoin stakers.
Staking BTC on a Bitcoin Layer 2 platform such as Core is simple and involves no new trust assumptions. When you lend or provide liquidity on one side of the bridge, you’re trusting both the bridging protocol—such as wBTC or tBTC—and the lending protocol. BTC holders don’t want to ever lose custody of their assets, and that’s a principle that Underlying Core’s Bitcoin staking product honors.
Ultimately, the decision of whether or not to pursue yield-generating activities with Bitcoin depends on individual risk tolerance and investment goals. By understanding the available methods, assessing the associated risks, and staying informed about the evolving landscape, Bitcoin holders can make informed decisions about how to unlock the potential of their BTC.
