(Bloomberg) -- A key pillar of demand for Ether, the second-largest digital token, is weakening against a backdrop of elevated Treasury yields.

Crypto investors can earn rewards by pledging Ether tokens to help operate the Ethereum blockchain, a return some cite as a potential prop for the coin. But the staking payout on pledged tokens has fallen to an annualized 3.5%, near the lowest in at least 10 months and well below a recent peak of more than 8%.

The return also falls short of the 5% yields offered by US government bonds that sit at the bedrock of the traditional financial system. The gap illustrates how the allure of the sometimes highly volatile crypto market has been eroded by the shift away from the ultra-low interest rates prevalent during the pandemic.

“The relative attractiveness of Ether staking yields has reduced significantly,” said David Lawant, head of research at digital-asset trading platform FalconX.

That may be reflected by the behavior of the validators who undertake Ether staking. Validators run software to verify and add transactions to a digital ledger, earning rewards paid in the ledger’s native token.

Smaller Queue

They have to wait in line for the opportunity on the Ethereum network. That queue has shrunk dramatically to 257 on Oct. 19 from a June peak of approximately 96,500, according to figures from Validator Queue.

“This is an indication that demand to stake Ether has — for now — been met,” digital-asset research company Kaiko wrote in a recent note.

Staking payouts are determined by a range of factors but a key variable is the number of validators — the more there are, the lower the reward rate.

The popularity of Ether staking mushroomed after upgrades to the Ethereum network beginning in September last year. Services such as Lido and Rocket Pool that allow easier access to the rewards grew to become the largest category in crypto’s decentralized finance sector.

“The increase in staking has reduced the attractiveness of Ethereum from a ‘yield’ perspective, especially against a backdrop of rising yields in traditional financial assets,” JPMorgan Chase & Co. strategists including Nikolaos Panigirtzoglou wrote in a note this month.

Other blockchains like Solana and Cardano use staking, whereas Bitcoin takes a different approach. For Solana, about 72% if its SOL token is locked up for staking, while the figure for Cardano’s ADA is 63%, Staking Rewards data shows.

The Ethereum staking ratio, currently at 22.6%, may top out at a “lower number than some were expecting,” Lawant said.

Trailing Bitcoin

The number of Ether coins staked dropped 67% to 1.2 million in September compared with May, according to a Dune Analytics dashboard from exchange-traded products issuer 21Shares AG.

Ether’s 32% year-to-date climb from 2022’s digital-asset rout lags behind Bitcoin’s 77% rally. In the past month — a period when the US 10-year Treasury yield increased about 50 basis points — Ether slid over 5% while Bitcoin added 8%.

Speculation that the US may allow the first exchange-traded funds investing directly in Bitcoin has boosted the largest cryptocurrency. 

Ether rose 1% to $1,581 as of 6:22 a.m. in London on Friday. Bitcoin pushed 1.7% higher to $29,211.

©2023 Bloomberg L.P.