Greg Cipolaro, Global Head of Research at NYDIG, noted that the team has recently examined the various tradeoffs of the available options for bitcoin investors to generate yield on their digital assets holdings.
The NYDIG researchers explained in their latest update that the new supply dilution in proof of work or PoW crypto networks affects all token holders equally, while it is also said to “disproportionally advantages” stakers over non-stakers in PoS networks.
NYDIG researchers also mentioned that the ongoing rise of liquid staking and restaking services introduces new risks as well as leverage into the crypto networks that may “come into play at some point.”
Recently, NYDIG had highlighted the rising demand for yield from bitcoin investors with the second phase of the Babylon mainnet launch.
As stated in the research report from the team at NYDIG, this project, when complete, would allow bitcoin holders to “generate rewards in Proof of Stake (PoS) networks, such as Cosmos.”
The update also stated that the key to what Babylon and its ilk are attempting to unlock is to enable bitcoin to “be the capital (stake) required to participate in the consensus process – proposing and validating blocks – in PoS networks.”
The NYDIG team added that Bitcoin’s Proof of Work (PoW) consensus mechanism requires miners to “expend real-world resources (energy and compute) to create new blocks and be rewarded.”
PoS consensus mechanisms broadly require capital to be “posted (in the form of a digital asset) in the hopes of being selected to create a new block and be paid a reward.”
The NYDIG update further noted that although stakers like to think about their rewards as “yield” because they are receiving more of a digital asset they already own, the reality is that staking “does not provide returns like most would think about it.”
As explained by the NYDIG researchers, the key to understanding how PoS rewards affect investors, both those who “hold PoS coins that stake them and those who do not, is the concept of capital structure irrelevance.”
According to the NYDIG update, this was described in 1958 in the Modigliani–Miller theorem, proposition 1, which states that the “value of enterprise is unaffected by how it is financed.”
Although the principle applies to capital structures, equity, and debt, it’s even simpler for crypto networks – the valuation of a crypto asset is “irrespective of the number of units.”
What does it have to do with crypto networks and valuation? For PoW systems like Bitcoin, all existing token holders are “affected by dilution due to coin issuance equally.”
For Bitcoin, with a growth in new supply of 0.8% annually, this “translates into dilution of 0.8% (a different number but rounded up) for existing holders.”
Notably, crypto miners, who are the “beneficiaries” of these new coins or cryptocurrency tokens, are required to “expend resources (energy and compute) in exchange for these new coins.”
The other way to think about this is that “under efficient market conditions, the price of bitcoin should drift downward by 0.8%, the dilution, keeping all else equal.”
Therefore, for bitcoin’s price to remain flat, it “must take in new capital to buoy the price.”
While dilution in PoW is said to impact all holders “equally,” the NYDIG report pointed out that that cannot be said for PoS systems.
The update also stated that this is because “not all holders stake, those that do are disproportionally rewarded, far beyond what might be implied by the total rate of growth of supply.”