Ethereum Needs A Defining Catalyst (Rating Downgrade)

Summary Ethereum has faced significant losses in 2024, with a YTD decline of ~55%, compared to Bitcoin’s ~16% loss and Solana’s ~42% drop. Staking integration into spot Ethereum ETFs could be a crucial catalyst for ETH, but regulatory clarity and approval remain uncertain. The SEC’s recent leniency towards crypto regulation offers hope, but Ethereum’s current ~3.4% APY from staking may not be compelling, even if staking integration sees approval. The upcoming Ethereum Pectra upgrade could improve network efficiency but may raise centralization concerns, potentially affecting its decentralized appeal. So far this year, Ethereum ( ETH-USD ) has erased the gains it made in 2024 and has been on the hardest receiving end (among major altcoins) of the crypto sell-off we’ve witnessed in the past month. For comparison, on a YTD basis, ETH has lost ~55%, Bitcoin ( BTC-USD ) has lost ~16%, Solana ( SOL-USD ) is down by ~42%, while Ripple ( XRP-USD ) lost ~15%. ETH vs Peers YTD price % chart (Seeking Alpha) The spot Ethereum ETFs approved in May last year were a significant milestone for ETH; however, they’ve not had nearly as much demand as the spot Bitcoin ETFs. On the surface, this isn’t surprising because Bitcoin has the strongest community and track record among crypto assets. When investors hold Bitcoin, they feel they own an asset that is widely regarded as a solid store of value. At least the U.S. government has said they won’t be selling any more Bitcoin and plan to buy Bitcoin in the future. This cements investors’ confidence, at least for now, and might be a good incentive to hold BTC, especially in the current market turmoil. Turning to the second most valued crypto, Ethereum, some key questions to revisit include: why should investors hold ETH or its spot ETFs? What incentives do investors have? With the market retrace we’ve seen so far this year, are there any catalysts left for Ethereum or developments in the pipeline that would incentivize investors to purchase and hold ETH or its ETPs? Let’s get into these analyses in this article. Staking Integration Into Spot Ethereum ETF Is A Potential Catalyst At this point, ETH needs a strong catalyst to move the needle. The market generally lacks momentum right now, and I’m not overweighting ETH at this time, and think investors should monitor ETH sentiment closely. The YTD ETH-BTC chart doesn’t look good. It is down ~47% ETH-BTC chart YTD (TradingView) Amid this downturn, what could potentially move the needle for ETH by creating an incentive to buy and hold the asset and in turn create a lasting trend reversal not just dead cat bounces? I think staking integration into the spot Ethereum ETFs is one potential catalyst to watch out for. The current SEC leadership has taken a more lenient approach toward crypto regulation, and I’d say it’s working to ease the bad blood between blockchain firms and regulators. There have been some surprising moves by the government and regulators lately, like the release of Ross Ulbricht, and the SEC dropping its investigations into certain crypto firms. The appeal to the XRP case was dropped by the SEC. This is just one instance of closed litigation. There have also been dismissals of some long-standing enforcement actions, like the enforcement action against Kraken and Consensys were dropped weeks ago. These concessions are great for the industry and send the signal that clarity is likely coming for every aspect of crypto that has had regulatory ambiguity. The latest SEC statement that directly influences the industry as a whole and shows how crypto regulation is shaping up, is the declaration that certain Proof of Work (“PoW”) activities and cryptos earned from proof of work mechanisms or participation in mining pools do not constitute securities offerings under the federal securities laws. This clarity is a big relief for PoW cryptocurrencies and miners. Now turning to the PoW cousin which is the Proof of Stake (“PoS”), which powers Ethereum and other major blockchains like Solana, there is need for a similar clarity surrounding PoS chains, and staking in particular. Such clarity will be one of the catalysts for a potential ETH rebound when market sentiment becomes much better and the downturn caused by the tariffs war blows over. The topic of PoS staking triggering security laws has become an even hotter debate since the spot Ethereum ETF fund managers began filing amendments for staking approval in the ETFs. There have been several filings by the fund managers, pushing for staking approval. NYSE filed the latest amendment the previous week on behalf of Bitwise asking the SEC to allow staking in the Bitwise spot Ethereum ETF ( ETHW ). Just a slight digression here, I recently wrote about how Bitwise is in a better position to capture ETH ETF share if staking gets approved, because of their existing robust ETH staking infrastructure and past expertise in running an ETH staking ETP. You can read the ETHW article here . The big question remains, will a similar clarity that has come for PoW chains likely come for PoS chains in the near future? Are there any inherent constraints to PoS networks that make such approval NOT remotely possible? I’ll dive into some points in this piece, based on my analysis and perspective, and why I think there could be reconsiderations from regulators regarding PoS chains and PoS activities, and some arguments I think the ETH ETF fund managers will lean into, which will maybe lead to a potential staking approval in the ETFs, not also forgetting some valid counterpoints that would strengthen regulators’ argument and stance. This article is meant to be an open conversation. Other supporting or opposing views are more than welcome; let’s make it a real discussion in the comments. The topic of ETF staking approval is still a bit of a gray area, even the current SEC leadership hasn’t given any clear signal yet, but that’s exactly what makes it worth digging into and what currently piques the curiosity of crypto investors. Putting Ethereum Proof-of-Stake Through the Howey Test There will probably be plenty of angles for ETH ETF filers to argue that staking shouldn’t trigger securities laws. The same goes for the SEC, which has precedent to argue that the pooling of assets and expectation of yield (staking rewards in this case), are enough to deny staking in the spot ETFs. The Howey Test centers on four criteria – 1. an investment of money, 2. in a common enterprise, 3. with an expectation of profit, 4. primarily from the efforts of others. How will the fund managers circumvent the notion of expectation of profit, reliance on a common enterprise, and the centralization of validator operations (efforts of others)? To get staking approved, I believe some staking structures will be off the table from the get-go. For example, Ethereum’s liquid staking, which has gained popularity since introduced after the Merge and has seen TVL grow strongly because of the advantages of liquidity and DeFi composability, will likely not be viable for consideration at all. The reason being liquid staking tokens represent a rebaseable or yield-bearing claim on staked ETH that is pooled and managed by third parties, which fits the SEC’s definition of an investment contract under Howey’s criteria of “reliance on a common enterprise.” The fund managers would likely strategize to go all decentralized in their staking structure. This will greatly reduce counterparty risks, and such risk would be one of the core arguments for the SEC to deny approval of the staking. Bitwise is worth a second mention here, being the only issuer so far with an in-house staking structure that could probably be integrated seamlessly into the spot ETF structure. Fidelity ( FETH ) also self-custodies its ETH holdings for the spot Ethereum ETF, but Fidelity hasn’t announced any in-house staking infrastructure yet. To evade triggering the Howey criteria, the issuers might argue that investors are only putting money into ETH itself via the spot ETFs, and not directly into staking. The staking process is secondary to the investor’s core objective, which is exposure to ETH’s spot price. The fact that staking rewards are tacked on is more like a side benefit, just like dividends on stocks. The real asset the investor is backing is the underlying commodity, ETH, and staking isn’t their primary investment strategy. The rewards from staking would simply be passed through to investors in proportion to their shareholding. There is really no common enterprise beyond the primary function of managing the spot ETF. The funds aren’t running a business that actively profits from the staking pool, they just hold ETH and secure the Ethereum network technologically. Staking is a technological necessity for the Ethereum network. And staking rewards aren’t exactly speculative profit – it’s a reward for “work done,” which is to secure Ethereum’s network. Staking isn’t primarily about “making money” but about preserving the value of ETH by sustaining the network. Risks and Conclusion The preceding arguments are based on my interpretation and analysis of ETH within the Howey framework. While they highlight some passable arguments the issuers could present to secure approval of staking in the ETFs, the SEC also has precedent on its side and has long argued that staking yields from centralized operations trigger securities laws. However, with the current U.S. administration’s stance towards crypto and their seriousness about removing ambiguity surrounding crypto assets and their regulatory frameworks (at least from recent press releases, this has been their stance ), I think an early path to getting such approval isn’t totally out of reach. On the flip side, even a staking integration in ETH spot ETFs might turn out not to be the needle-moving catalyst we highly anticipate. ETH staking rewards are currently ~3.4% APY, compared to a PoS blockchain like Solana with ~8.17% APY. Issuers have begun filing for spot Solana ETFs too. And if Solana sees an early spot ETF approval (with the current crypto-friendly SEC leadership, I’m not taking anything off the table), it means there will be intense competition among these major altcoins for spot ETF dominance. If by some chance staking gets approved for both Ethereum and Solana spot ETFs, Solana’s higher APY will likely mean diminishing appeal for Ethereum. I feel Ethereum lacks a fresh, defining catalyst at the moment – the type we saw during the Merge and introduction of liquid staking in late 2022, which saw ETH rise from around $1,500 at the time of the Merge to over $4,000 in 2024. One of the main catalysts we look forward to at the moment – staking integration into the spot ETFs – isn’t a sure thing yet. And even if it got greenlit, a ~3% APY might not be compelling enough for some investors, considering the volatility risk inherent in crypto. Investors might feel they are better off with REIT-focused ETFs that offer even higher yields. Ethereum’s Pectra upgrade is forthcoming (in early May) and would potentially bring lower fees and faster transaction confirmation time to the Ethereum network – a good one for ETH. However, EIP 7251 , a core part of the Pectra upgrade, which will increase the validators staking limits from 32 ETH to 2048 ETH, raises some centralization concerns, because we could witness consolidation of the smaller validators with 32 ETH staked, into fewer validators with 2048 staked ETH. Centralization concern is a big deal because it influences governance decisions on the network. And based on this, Ethereum may just be on its way out of being the trustless, decentralized network that offered the foundation for DeFi and decentralized apps, which has been the network’s main selling points over the years.

Source: Seeking Alpha