DeFi – staking, LP, impermanent loss, restaking

Introduction

DeFi promises yield, but yield in DeFi is not the interest rate you get from a bank – it is the sum of rewards for risk: contract risk, token risk, liquidity risk and the risk of the mechanism itself. If you cannot calculate where the rate of return comes from and how much you lose when the asset price moves, you are not earning – you are funding the people who did the maths.

This lesson takes staking, liquidity providing (LP) and restaking apart. You will understand impermanent loss at the level of the formula, not a slogan, and you will build a risk checklist for every DeFi position.

Staking – the foundation

Staking in PoS means securing the network by locking tokens with a validator. You get rewards for honesty.

Real staking APR

Nominal APR = (Annual rewards in the token / Amount staked) * 100%
Real APR in USD ≈ Nominal APR - Token inflation - Validator fee - LST depeg risk

ETH example:
Nominal APR Lido 3.5%, ETH inflation ~0% (deflationary), fee 10% -> Real APR ~3.15%
SOL example: APR 7%, inflation 5%, fee 8% -> Real ~1.44% in token terms, but the SOL price moves

Measure real yield: do the rewards come from network fees, or from printing tokens? ETH staking after EIP-1559 is closer to real yield. Many L1s still print.

Liquidity Providing – how an AMM works

Most DEXs are AMMs using the constant product formula: x * y = k.

Where x and y are the reserves of the two tokens in the pool, and k is constant.

The price is set by the ratio of the reserves.

ETH/USDC pool: 10 ETH * 30,000 USDC = 300,000 = k
ETH price = y / x = 30,000 / 10 = 3,000 USDC

If someone buys 1 ETH from the pool:
x' = 9 ETH, y' = k / x' = 300,000 / 9 = 33,333 USDC
Price after the trade = 33,333 / 9 = 3,703 USDC
Slippage = price after - price before

By providing liquidity you deposit both tokens in a 50/50 ratio (in Uniswap v2) and earn a percentage of the fees.

Impermanent Loss – the maths, not the myth

Impermanent Loss (IL) is the difference between the value of HODLing and the value of the LP position after a price move.

Formula for Uniswap v2 50/50:
IL = 2 * sqrt(price_ratio) / (1 + price_ratio) - 1
price_ratio = final_price / initial_price

Example: ETH 2x against USDC (price_ratio=2)
IL = 2*sqrt(2)/3 -1 = 2*1.414/3 -1 = -5.72%

If ETH 3x:
IL = 2*sqrt(3)/4 -1 = -13.4%

If ETH 0.5x (a 50% drop):
IL = 2*sqrt(0.5)/1.5 -1 = -5.72% (symmetrically)

The key point: IL becomes permanent when you withdraw liquidity at a different price than your entry. Until then it is unrealised.

When does LP make sense?

Profitability condition:
Fees collected + Farming rewards > |IL| + Transaction cost (gas) + Opportunity cost (HODL)

Work it out:
Assume an ETH/USDC pool with a 0.3% fee, $10M daily volume, your position $10k = 0.1% of the pool
Daily fee ~ $10M*0.3%*0.1% = $30 -> APR ~109% (a simplification)
But if ETH does 2x in a month, IL -5.7% = -$570, while fees are ~$900 -> still ahead
If volume is low, the fees will not cover the IL

Uniswap v3 (concentrated liquidity) increases fee efficiency but increases IL, because the range is narrower – the position falls out of range faster and 100% of it turns into a single token.

Yield Farming and its layers of risk

Farming = staking the LP token to earn extra rewards in the project’s token.

Layers of risk (in ascending order):

1. AMM fees (safest, real yield)
2. Rewards in a token with an established position (e.g. ARB, OP)
3. Rewards in the inflationary token of a new project (the reward loses value together with TVL)
4. Leveraged loops (e.g. you borrow stablecoins, farm the LP, borrow again) – liquidation risk

Restaking – EigenLayer and the ecosystem

Restaking lets you use already staked ETH (e.g. stETH) to secure other services (AVS – Actively Validated Services). You get extra yield in exchange for extra risk.

The mechanics:

• You stake ETH -> you get stETH (Lido)
• You restake stETH in EigenLayer -> you delegate to an AVS operator
• The operator secures a bridge, an oracle, a DA layer
• You receive AVS fees, but if the operator fails or the AVS has a slashing fault, the cut can reach your stETH

EigenLayer yield = ETH staking yield + AVS fees + EigenLayer points/incentives
Risk = multiplied slashing (one cut can come from several AVSs) + a bug in the EigenLayer contract + stETH depeg + operator risk

Real Risk Adjusted Yield = (Sum of yield) - (Probability of a slash * estimated cut)
The probability is not exactly measurable – hence the caution

Restaking has phases: ETH restaking, LST restaking, LRT (Liquid Restaking Tokens such as ether.fi, Renzo). LRTs add another layer of contract and operator.

A typical mistake: treating an LRT as “the same as ETH staking, just with a higher percentage”. It is not the same – the number of dependency layers grows exponentially.

When the plan says do not trade

1. When you cannot work out where the APR comes from. The dashboard shows 250% APR, but 240% of it is emission of a token that drops 5% a day. No real yield = I do not enter.
2. When the IL is not calculated for your v3 pool. A narrow range plus high volatility = IL -20% in 48h plus gas. If you have not done the calculation, the plan says stop.
3. When the project’s TVL is < $5M and there is no audit. That is a test phase running on your capital. A professional waits for an audit and 30 days of stable TVL.
4. When you restake 100% of your ETH portfolio in a single LRT with a single AVS. That is maximum concentration of contract and slashing risk. The plan says diversify the layers or cap the exposure at 20% of ETH.
5. When the gas fee eats more than 10% of the position. On Ethereum mainnet a $500 LP position with $20 of gas for the entry and the exit transaction is -8% from the start. L2 networks change that, but do the maths.

The mistakes that cost the most

1. Counting profit in tokens instead of USD. “I have more tokens than I started with” – but the token lost 60%. A portfolio in USD tells the truth.
2. Forgetting the unbonding period. You unstake SOL, the price falls -30% in 7 days, and you cannot sell, because a 2-day unbonding is too long once congestion hits.
3. Entering a stablecoin/volatile pool without understanding IL. The stablecoin does not protect you from IL – if the volatile asset goes 5x, the IL is huge and the stablecoin only earns fees.
4. Trusting an APR from Dune without checking for wash trading. Some pools are wash-traded to show artificial volume and APR. Check the organic volume.
5. No exit plan for a v3 LP. The position fell out of range, 100% of it turned into USDC, and ETH went 2x without you. You need an alert on the range and a rebalancing procedure.

A measurable exercise

DeFi station – calculate 3 scenarios (spreadsheet):

Pick one pool, e.g. WETH/USDC 0.05% on Uniswap v3 on Base.

1. Scenario A (calm): price +10%, fee APR 15%. Calculate the final HODL value versus the LP value.
2. Scenario B (trend): price +100% in 30 days, fee APR 40%.
3. Scenario C (crash): price -40%, fee APR 20%.

Use the IL formula above and:

Final HODL value = (amount of token A * final price of A) + (amount of token B * final price of B)
LP value = HODL value * (1 + IL) + Fees + Rewards - Gas

Difference = LP - HODL (if negative, HODL is better)

Write down the conclusions: for what range of volatility does LP make sense? How much fee per day do you need to cover the IL at 2x?

Second sheet: build a risk matrix for the position you are considering:

Check yourself

1. Calculate the IL for price_ratio = 1.5 in a 50/50 v2 pool.
2. Why is an LST more liquid than native staking, but carries extra risk?
3. Explain the difference between fee APR and rewards APR.
4. What is an AVS in EigenLayer, and what extra risk does it introduce?
5. When is LP on v3 riskier than v2 despite the same APR?

Frequently asked questions

Is impermanent loss a loss only on paper? Until you close the position, yes. But if the price never returns to your entry level, the loss becomes permanent. The name “impermanent” is misleading – for many it is a real loss against HODL.

Is staking on a CEX safe? It carries counterparty risk. When an exchange runs into trouble (see FTX), your staked tokens become part of the bankruptcy estate. Native staking plus self-custody removes the exchange risk and replaces it with validator risk and your own operational mistakes.

Why does restaking pay extra yield? Because you are selling extra security. An AVS needs economic backing – you provide it. This is not free money, it is selling insurance. If the AVS fails, you pay.

Which pool should you pick first to understand LP? A stablecoin/stablecoin pool (USDC/USDT 0.01% fee) on an L2 – minimal IL, and you will understand how fees and the range work. Then a stablecoin/volatile pool with a wide range on v3.

Does LP on memecoins with 1000% APR make sense? Do the maths. The volume is often one whale wash trading, and a backward-looking APR will not repeat. IL on memecoins can be -70%. If you cannot calculate HODL versus LP for 10x volatility, do not enter.

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