Staking and Yield Farming: Where Does the Yield Come From?
Inflation, fees, borrowing demand, token incentives: understand where crypto yield comes from, how to read an APR or APY and how to spot warning signs.
The essentials
The first question to ask: who pays?
When a platform displays "8% per year" on a token, always ask the same question: where does that money come from? There are four main sources of yield in crypto. Most offers combine several.
Source 1: staking and issuance of new tokens
On a proof of stake blockchain such as Ethereum, network security is provided by validators who lock up ("stake") tokens as collateral. On Ethereum, activating a validator takes 32 ETH.
According to ethereum.org, validators are rewarded in two ways:
- Protocol issuance: the network creates new ETH to reward honest participation.
- Transaction fees and MEV: when a validator proposes a block, it receives the unburned fees paid by users and the additional value tied to transaction ordering (MEV, "maximal extractable value").
Key point on issuance: creating new tokens dilutes those who don't stake. Part of staking yield therefore simply offsets this dilution. A 5% yield on a token whose supply grows 5% a year doesn't make you richer relative to the network.
Staking isn't risk-free: a validator that misbehaves (for example by signing two contradictory blocks) can suffer slashing, meaning the destruction of part of its stake. A validator that is offline loses small rewards.
Source 2: fees paid by users
On an AMM-type decentralized exchange (DEX), every swap pays a fee, for example 0.30% on Uniswap v2 pools, added to the pool's reserves. The people who provide the liquidity (LPs) share those fees.
This is a "real" yield in the sense that it comes from activity: people pay for a service. But it varies with trading volume, and LPs bear a specific risk, impermanent loss, explained in our guide dedicated to liquidity pools.
Source 3: borrowing demand
On a lending protocol like Aave, lenders deposit tokens that others borrow by posting collateral. The interest paid by borrowers is passed on to lenders, minus a share taken by the protocol.
These rates are variable. They rise when many people want to borrow (for example during speculative periods, to take leverage) and fall when demand subsides. A high lending rate therefore often reflects strong demand for leverage in the market, which can vanish quickly.
Source 4: token incentives
To attract deposits, many protocols distribute their own token as a reward. This is the core of yield farming: moving your funds to wherever rewards are highest.
This yield depends on two things that can collapse:
- the price of the distributed token: if "farmers" sell it as they receive it, its price falls;
- the number of participants: rewards are shared among all depositors. The more people there are, the smaller everyone's share.
A simple calculation
A pool holds $1,000,000 of deposits. The protocol distributes 1,000 tokens per day, each worth $1. Over a year: $365,000 in rewards, an APR of 36.5%.
- If the token drops to $0.30, the APR falls to 10.95%.
- If deposits double to $2,000,000, the APR is cut in half.
- If both happen at once, only about 5.5% is left.
The APR displayed on day one is therefore only a snapshot.
APR and APY: don't mix them up
- APR (Annual Percentage Rate): a simple annual rate, with no reinvestment of gains.
- APY (Annual Percentage Yield): a compound annual rate, which assumes gains are reinvested regularly.
For the same investment, APY is always greater than or equal to APR. Examples with daily compounding:
| APR | APY (compounded daily) |
|---|---|
| 5% | about 5.13% |
| 10% | about 10.52% |
| 100% | about 171.5% |
For modest rates, the gap is small. For high rates, APY greatly inflates the displayed figure, even though it assumes daily reinvestment, which sometimes costs transaction fees and requires a stable token price. Always compare APRs with APRs, or APYs with APYs.
Staking on an exchange or on-chain?
On an exchange (centralized platform)
This is the simplest: you click "stake" and the platform handles the rest. In return, ethereum.org points out that the platform controls your tokens: you depend on its soundness, and it generally takes a commission on rewards.
On the European regulatory side, ESMA (the European markets regulator) clarified in an answer published on the MiCA regulation that staking done directly by a holder is not subject to specific requirements, but that staking services offered to clients are considered ancillary to the custody of crypto-assets. The provider must therefore be authorized as a custodian under MiCA, keep client assets separate from its own, and obtain the client's explicit consent to stake their crypto. Check that the platform has the appropriate authorization.
On-chain (from your own wallet)
You keep control of your keys, either by delegating to a validator or by using a "liquid staking" protocol, which gives you a token representing your staked funds. According to ethereum.org, this option adds smart contract risk and depends on the chosen operator. Solo staking (32 ETH on Ethereum) offers the most control, but requires hardware and technical skills.
| Criterion | Exchange | On-chain |
|---|---|---|
| Simplicity | High | Medium |
| Key control | No | Yes |
| Main risk | Platform | Smart contract, validator |
Lock-up periods
Many yields come with a time constraint:
- Exit delay: leaving staking isn't always instant. Depending on the blockchain, you have to wait in a queue or for a fixed period before getting your tokens back.
- "Locked" offers: some platforms offer a better rate in exchange for a 30-, 60- or 90-day commitment, with no early withdrawal.
- Reward vesting: some protocols pay out their rewards gradually, or lock them for months.
Meanwhile, the token's price can fall without you being able to sell. A 10% yield doesn't offset a 40% drop in the token.
A concrete example
You're torn between two offers on the same token.
Offer A: staking at 4% APR, paid in the network's tokens, exit possible within a few days. Source: network issuance and fees.
Offer B: a new protocol advertises 250% APY on a pool, paid in its own token, launched two weeks ago.
Questions to ask about offer B:
- In APR terms, how much is that? A 250% APY corresponds to an APR of about 125% with daily compounding.
- Where do these tokens come from? If they are solely protocol emissions, the yield depends on the price of a token that can collapse under selling pressure.
- How long do the rewards last? Are they locked?
- Has the code been audited? Who controls the contract?
Offer A isn't risk-free (token price, slashing, platform), but its source of yield is identifiable. Offer B might pay off, or you might lose everything.
Red flags of an unsustainable yield
- A high, "guaranteed" rate. The AMF urges you to ask how such a high return could be guaranteed; promises of unrealistic gains are a classic sign of a scam.
- No identifiable source of yield, or a vague explanation ("algorithmic trading," "secret arbitrage").
- Yield paid only in a new token, with no real use.
- Rewards for referring other people, which recall a Ponzi scheme.
- Withdrawals blocked or subject to conditions that appear after the deposit.
- Unauthorized platform: check the AMF's whitelists and blacklists.
Mistakes to avoid
- Comparing an APY to an APR and choosing the bigger number.
- Forgetting the yield is paid in tokens: 10% on an asset that loses 50% is still a loss in euros.
- Ignoring fees: platform commission, transaction fees to claim and reinvest.
- Chasing the highest rates by constantly moving your funds, multiplying signatures and risks.
This guide is general information and does not constitute investment, legal or tax advice.
Frequently asked questions
Where does staking yield come from?
Mainly from the issuance of new tokens and network fees, paid to those who help secure it. Part of this yield simply offsets the dilution suffered by those who do not stake.
What is the difference between APR and APY?
APR is a simple annual rate, without reinvestment. APY is a compounded rate that assumes gains are reinvested: a 100% APR gives about 171.5% APY with daily reinvestment. Compare APRs with APRs.
Is it better to stake on an exchange or onchain?
On an exchange it is simple, but the platform controls your tokens and takes a commission; under MiCA, this service requires a custody license. Onchain, you keep your keys, at the cost of smart contract or validator risk.
Can I get my staked crypto back at any time?
Not always: unstaking can involve a delay depending on the blockchain, and some offers lock funds for 30, 60 or 90 days. Meanwhile, the token's price can fall without you being able to sell.
Key takeaways
- Crypto yield comes from issuance, fees, borrowing interest or token incentives: always identify who pays.
- Issuing new tokens dilutes those who don't participate; part of staking yield offsets this dilution.
- APY assumes reinvested gains and inflates high figures: compare APRs with each other.
- Staking through an exchange is simple but entrusts you to the platform; under MiCA, this service counts as custody and requires authorization.
- A high, guaranteed or unexplained yield is a warning sign, not an opportunity.