Data Deep Dive: The State of Ethereum Following the Merge
0x071B
November 2nd, 2022

It’s been nearly two months since the Merge, the biggest upgrade in Ethereum’s history. In this data deep dive, we examine how the market has been affected, how key fundamentals of the network have developed, the changes to ETH’s issuance so far, and charts related to Ethereum’s staking yields.

Market Impact

The Merge turned out to be a “buy the rumor, sell the news” type event, with the price running up to almost $2,000 in anticipation of the upgrade, only to fall as low as $1,250 around the time of the Merge on September 15th. Nevertheless, the native token of the most popular smart contract blockchain has bounced back, rising back above the $1,500 handle in recent weeks. 

The chart below shows the price and volume for ETH since one year prior to the Merge. The trading volume for ETH fell to yearly lows after the Merge, but has since picked up, with volumes rising in October to highs not seen since the market bottomed out around $880. 

Source: Santiment

The recent rise in volume is a positive sign for ETH. Following the wider trends in the market, the ETH-USD market has seen a sustained increase in its share of trading volume on Perp v2, rising from below 20% in August to a three-month high of 56% on October 26th.

Source: Dune Analytics

Provide liquidity to the ETH-USD market on Perp to earn trading fees, as well as OP and PERP from our Pool Party initiative!

As well as the recovery in the price of ETH, another positive sign is that the correlation with BTC over the past 60 days has reached its lowest value since December 2021, touching lows of +0.77. However, ETH retains a large and positive correlation with BTC over the short-term, where the 30-day measure is currently close to +0.90. 

Source: CoinMetrics

ETH traders may not be at the mercy of the stock markets for much longer! 

The 30-day correlation between ETH and the S&P 500 recently hit a 7-month low, declining from May’s highs of +0.82 to +0.20 on October 28th. Both Bitcoin and Ethereum are displaying less tendency to move in line with the S&P 500, but this short-term decoupling for Ethereum has been much more noticeable and rapid. 

Source: CoinMetrics

Monitor these correlations trends from now on for any hints that crypto will start to trade independently of traditional markets once more. With ETH edging closer to ‘ultrasound money’ status, the realization of this key narrative could precipitate further decoupling in the weeks or months ahead and become a positive boon for the token’s price over the medium term. 

How Have Ethereum’s Fundamentals Fared?

One of the major changes that becomes immediately apparent from looking at Ethereum’s on-chain data is that block times are now far more consistent. Under the Proof of Work approach, Ethereum’s block times often varied significantly because mining follows a Poisson process. 

But since the transition to Proof of Stake on September 15th, block times are now a lot less volatile and have settled to around 12 seconds. Instead of blocks, Ethereum’s chain internally measures time using slots and epochs, where each slot is 12 seconds and each epoch is 32 slots. Sometimes block times will be 24 or 36 seconds, which is the case when a validator misses a slot. 

Source: Glassnode

Another relevant data point is the number of tokens deposited to the Beacon chain. As shown below, new deposits reached almost 250,000 ETH in the last week of October, which is the greatest inflow since April. In the few weeks following the Merge, almost 450,000 ETH was deposited to the staking contract, representing over 2,700 new depositors. 

Source: Dune Analytics

Prior to more tokens being staked and the influx of new depositors, Ethereum saw the fourth largest daily spike ever in transactions involving tokens that had been dormant for two or more years: a total of 1.08 million ETH moved on-chain after remaining inactive for at least two years! This represented the largest movement of such tokens since November 15th, 2021, where 2.1 million were moved as the price cooled from all-time highs. 

The dormant ETH that was moved is likely down to sellers who ‘sold the news’ in anticipation of the Merge and investors depositing into the Beacon chain to earn yield as a validator. As shown in the chart below, spikes in the two-year dormant circulation have often corresponded with major turning points in the markets. 

Source: Santiment

For example, there were large spikes in the amount of dormant tokens becoming active when ETH bottomed out at around $880 in mid-June. Given the improving supply dynamics (which is covered in the next section), the large increase in the number of dormant tokens becoming active might mark the beginning of a new bullish phase for ETH. 

Impact on ETH Issuance

ETH is on the cusp of becoming a deflationary asset and realizing the narrative of ‘ultrasound money’. 

Under Proof of Work, the estimate for the annual issuance of ETH is around 5 million. Following the Merge, issuance now depends on the total amount of deposits to the Beacon chain, as expressed by the formula below:

166*sqrt(total_deposits)

With total deposits to the Beacon chain currently around 14.66 million ETH, plugging this value into the formula above gives us an estimate of the annual issuance under Proof of Stake: almost 636,000 ETH per year. However, as deposits are likely to change over time, it’s difficult to predict the exact figure for ETH’s annual issuance. 

Nevertheless, if Ethereum continued with Proof of Work, the issuance over the past 48 days would have almost matched the entire annual issuance under Proof of Stake, with close to 2,600 additional units of ETH added to the total supply since the Merge. The chart below displays the rate of change in the ETH supply, where the growth in newly issued tokens is currently at 0.016% per year (compared to 1.716% for Bitcoin and 3.607% if Ethereum continued with Proof of Stake).

Source: ultrasound.money

While the Merge has reduced issuance, EIP-1559 is the main determinant with regard to ETH becoming deflationary, since the burning of fees significantly reduces the supply when there’s heightened demand for Ethereum’s block space. So as demand increases and the average gas price rises above the ‘ultrasound’ threshold of ~15.5 Gwei, more ETH will be burned than is issued through validator rewards. 

Since withdrawals for the Beacon chain are not yet live, all staking rewards earned by validators are essentially locked up until the Shanghai upgrade occurs. One consequence of this: the free float supply of ETH has decreased since the Merge, falling by 170,000 tokens since September 14th.

The free float supply reflects the liquid market, excluding the number of tokens that have been burned, provably lost, staked in the beacon chain, and so on. As the free float supply continues to fall, this is likely to benefit the price of ETH over time as more tokens are taken out of circulation through burned transaction fees and deposits to the Beacon chain. 

Source: CoinMetrics

Staking Yields

As with ETH’s issuance, validator yields also depend on how many tokens have been deposited and locked up into the Beacon chain. Around 12% of the supply is currently being staked, with this figure recently passing the 14.5 million ETH mark. 

Prior to the Merge, miners received rewards in the following forms: issuance for each new block, priority tips from users who want their transaction included more quickly and MEV (maximal extractable value). Following Ethereum’s shift to Proof of Stake, validators now earn these rewards that were previously allocated to miners. 

As a result, it has boosted staking yields for Ethereum’s validators with the inclusion of priority tips and MEV. The chart below using data from beaconcha.in shows that the average yield over the past 31 days is between 4.5%-6.7% for the top 20 staking pools. 

Ethereum’s next upgrade, Shanghai, will likely allow partial and full withdrawals from the Beacon chain. As a result, liquid staking derivatives (LSDs in the following) have become a popular mechanism to stake ETH, since validators benefit from these products making the rewards locked on the Beacon chain liquid.

Lido’s stETH remains the most dominant LSD, with a staking market share of around 30% and a close to 90% market share for LSDs, followed by RocketPool. As well as maintaining its position as a leader in LSDs, stETH has branched out by establishing a presence on Ethereum’s most popular Layer 2s.

Source: Dune Analytics

Since launching on Optimism, over 8,600 wstETH has been bridged to date and the total value locked (TVL) is almost at $15 million. Despite being just a tiny share of all stETH in existence, we expect to see continued growth of stETH on Optimism as Layer 2s and ETH staking gains more momentum. 

Source: Dune Analytics

Over 50% of the TVL for stETH on Optimism is currently attributed to two stable pools that currently offer an APR of around 8-9%, thanks to the allocation of LDO tokens to LPs: 

  1. Velodrome’s wstETH/WETH pool, and

  2. Beethoven’s wstETH/bb-rf-aWETH pool.

The Staking Wars are heating up! 

The great thing about DeFi is that it is highly competitive, leading to an array of choices and better products for users. While Lido remains the top dog in the area of LSDs, during October we saw a new market entrant: Frax Finance

Frax’s own LSD (frxETH) promises to be the highest yielding LSD, since it is also integrated into Fraxlend, Curve, and Fraxswap. The chart below shows that the supply of frxETH has gone from 0 to 3,788 in just a couple of weeks, with 77% of these tokens staked across almost 100 validators.

Source: Dune Analytics

Unlike rebase tokens such as stETH, Frax utilizes a two-token model:

  • frxETH: a non-yield bearing ERC-20 token that is pegged to ETH and is designed to be used in DeFi. Holders can supply liquidity to the ETH/FrxETH Curve pool to earn CRV, CVX and FXS, or stake frxETH to receive sFrxETH. 

  • sFrxETH: an ERC-4626 staking vault that collects all staking rewards from new issuance, tips and MEV boost.

Therefore, FrxETH holders have to make a choice between LP’ing in the ETH/FrxETH Curve pool and staking to earn validator rewards, so not all frxETH will be staked. As a result, since Frax’s validators will continue to earn rewards, those that stake and hold sFrxETH should earn higher yields as compared to other LSDs. 

If you want to learn more about frxETH, Frax developer Jack Corddry provides all the insights on the Flywheel podcast.

Apart from new entrants such as Frax, other protocols are also pitching in to help lessen the centralization of stake in Ethereum, such as IndexCoop with its upcoming meta-LSD, the diversified stake ETH index (dsETH). Products such as IndexCoop’s dsETH index will help to promote competition amongst DeFi protocols in the liquid staking market. 

Another such protocol is Gravity, which facilitates the borrowing for ETH and LSDs in an interest free and capital efficient way. Users can borrow Gravity’s stablecoin with zero interest against assets such as ETH, stETH, rETH and many more. The way it hopes to combat the centralization risk for Ethereum is through boosting the growth of smaller LSDs by providing utility for these holders by sharing leverage and liquidity across the entire liquid staking sector. 

While the Merge sets the stage for reduced ETH issuance, greater stability in block times and a more environmentally friendly blockchain, it has not actually resulted in any gains for scalability, which is being handled by Layer 2s at the moment. 

Source: CoinMetrics

The big scalability gains for Ethereum lie in the road ahead with ‘The Surge’ (which we’ll cover in a future article) where the introduction of sharding will massively increase the number of transactions per second that can be processed. Once the Surge is complete, Ethereum will rival the most centralized and established payment networks like MasterCard and Visa in terms of transaction throughput.

Disclaimer: any projects mentioned in this article are for illustrative purposes only. The mention of a project in our educational content does not constitute investment advice. Please do your own research and make yourself aware of the risks involved with different DeFi protocols. 

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