Will LSTs Become Base Pairs for AMMs?

A common question with the adoption of LSTs is whether or not they will become more prevalent in AMM pools vs their native, non-yield bearing counterpart. In Ethereum, all AMM’s utilize WETH as the base pair and enables it as the main routing token (i.e. if someone wants to swap Coin A for Coin B, often times the path it will take is Coin A → WETH → Coin B).

Take stETH for example. stETH earns a yield of about 4-6%, so for someone seeking yield on Ethereum they need to overcome this hurdle rate on any ETH strategy for the risk to be worth it. Once accounting for IL, this becomes quite challenging, and often impossible without generous token incentives. The alternative would be to start using LSTs like stETH instead of WETH in liquidity pools, in which case the ETH side of the pool is no longer sacrificing this yield.

So what are the challenges with replacing WETH with LSTs? Besides added smart-contract risk, the total liquidity of LSTs is small (5% of total ETH market cap) and a winner/canonical LST needs to be chosen. While Lido’s stETH is much larger than the other LSTs, they still have numerous competitors which can make this challenging. Also, Ethereum has been around for years, and replacing WETH on L1 seems incredibly unlikely, even if desired. If we were to see experimentation here, it would likely be on L2’s.

In Cosmos, the use of LSTs makes even more sense as staking yields are much higher, usually 20%+. Most of these chains and protocols are also newer, so there is no liquidity built up in native assets and they can launch with LSTs from day 1. This is exactly what ForgeDEX, a Uniswap v3 fork coming to EVMOS on Monday plans to do, utilizing Stride’s stEVMOS token as the base for all trading pairs. EVMOS has a (kind of ridiculously) high 85% staking APR, so pooling with EVMOS is almost guaranteed to fail. By utilizing stEVMOS, LP’s no longer have this opportunity cost to forgo (although since stEVMOS is half the pool the other side will still need to be worth it and generate a significant yield).

This is (i think?) the first real experimentation of using LSTs as main trading pairs and I would expect new protocols to continue to trend in this direction over time. This is of course also great for Stride, as they have been selected as the canonical routing token for Forge.

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