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Decentralized Finance or DeFi is just one of the latest developments in the fast-paced evolution of crypto. While some saw it as a passing fad, DeFi has proven everyone wrong by emerging as a stand-alone financial sector.
Today, DeFi may seem like a daunting rabbit hole for beginner investors. The market offers a wide range of financial products, so diverse and engaging that many don’t know where to start investing in DeFi. Also, the myriad of food-named protocols surfacing in a short time didn’t help with its credibility. After all, you don’t sound like a respectable financier if your portfolio is full of Yam, Sushi, Burger, and Kimchi tokens.
You came to the right place if you also don’t know what DeFi is and where to start. This research guide to decentralized finance should clear the air. More so, it should help you get into one of the best-performing financial sectors of our day.
What is Decentralized Finance (DeFi)?
Decentralized finance, or simply DeFi, refers to an ecosystem of decentralized financial applications. Most of these public, open-source protocols are built on permissionless blockchains, making them accessible to anyone with a stable internet connection.
Besides its structural composition, decentralized finance also stands for an up-and-coming financial movement. Its goal is to take financial responsibility and control from the hands of centralized organizations, such as banks, and give them to its rightful holders, the people.
The LEGO – DeFi Connection
The easiest way to understand DeFi is to imagine it as a LEGO construction. Just like LEGO parts, DeFi protocols are modular. This means that they can interact with each other easily and enable the creation of countless structures.
For instance, let’s say an indestructible, immutable LEGO structure exists. Anyone can add other LEGO pieces to it, but they cannot remove or alter the original foundation. This is the blockchain supporting the DeFi ecosystem.
You can take part in this LEGO build with your own LEGO pieces, which are your assets. Firstly, you can construct your own structures on top of it and allow others to use them. Alternatively, you can use other people’s structures, which are in the form of decentralized applications (DApps).
These applications enable you to engage in various operations. For example, you can transfer LEGO pieces (assets), just as you do with traditional banking money. In addition, you can sell them for profit or exchange them for other types of LEGO pieces, just as you would do in real-world marketplaces.
Lastly, you can borrow more LEGO parts if you have a certain structure in mind that you want to build but don’t have enough pieces. Also, you can lend your LEGO parts to other users building their structures. This way, you earn an interest in the long run, just as you would do in the real world with fiat currencies.
Smart Contracts in DeFi
Engaging in all these operations on the decentralized finance network is possible through smart contracts. A smart contract is simply a piece of code smart enough to execute itself when its preliminary conditions are met.
Smart contracts make blockchain transactions fast, effective, and highly secure. Also, they remove the need for a central authority to would authorize the transaction. As soon as all the parties in a smart contract meet their preset conditions, the agreement gets executed.
A Brief History of Decentralized Finance
The first instance of decentralized finance appeared in 2017 in the form of Maker DAO. This DeFi project is built on the Ethereum blockchain and enables users to borrow assets through DAI, the platform’s native token. DAI is pegged to real-life USD, meaning its value is always equal to the famous fiat currency. This makes it a stablecoin.
Maker DAO operates through a series of smart contracts that set all the rules regarding borrowing, lending, and repaying loans on the platform. Its goal is to maintain DAI’s relevancy in a decentralized and autonomous manner.
Maker DAO remained a peculiar project in the cryptoverse for almost three years. Then, in the summer of 2020, DeFi exploded in the crypto industry through the sudden popularization of yield farming and liquidity mining. (More on these later)
A plethora of DeFi projects rose to widespread fame overnight. Most of them promised more financial freedom and asset control for their users. Some remained true to their calling and spearhead the DeFi revolution today. Others proved to be scams or vulnerable to hack attacks.
Nowadays, most of the DeFi protocols have been developed on Ethereum and, at the time of this writing, have a cumulated value of nearly $82 billion.
How Does Decentralized Finance Work?
Decentralized finance enables anyone who can write a smart contract to develop and execute DApps. This means that users can create their own projects on one of the three DeFi functionalities:
The development of monetary banking services
Peer-to-Peer (P2P) lending and borrowing
The creation of financial instruments
The last functionality enables anyone to build decentralized exchanges, tokenization platforms, predictions markets, and derivatives.
The more projects surfacing on the blockchain, the more the DeFi universe expands. In the long term, the substantial number of widely diverse projects will make decentralized finance difficult to explain in one sentence. For now, decentralized finance works as a continuously expanding structure of decentralized applications with numerous purposes and functionalities.
As more and more DApps appear on the blockchain, most of the single points of failure disappear. That’s because all the information necessary to run these protocols is spread across countless nodes. So, even if one or more nodes fail, the rest can keep the application running efficiently.
What is the point of Decentralized Finance?
When discussing the benefits of decentralized finance, we have to start with its independence from the traditional banking system. Not relying on intermediaries or arbitrators increases the network’s efficiency and trust while reducing the costs associated with financial operations.
Another major innovation of DeFi is that it gives virtually everyone on the planet access to financial services. As a result, billions of people from impoverished communities can create, own, and trade digital assets without relying on banks or other financial institutions.
DeFi provides people with more control over their financial situation. This means that access to wealth is no longer reserved for those with a good relationship with a traditional bank. Instead, anyone with a stable internet connection can access higher levels of wealth regardless of their background.
DeFi vs. Traditional Finance
As we know it, the financial world has evolved over millennia and determines the way wealth is distributed across the world. Yet, throughout human history, financial control was always in the hands of one institution or another. Whether it was a king, a governor, or the church, an organization always had its hands on the cookie jar and decided who gets what.
In recent centuries, banking institutions took control of the financial world. Nowadays, they decide who can hold or trade assets through their secure chaperone-like system. If you have an account with a bank, you must pay them an administration tax for your hard-earned assets. More so, if you want to exchange your money for other goods or other currencies, you depend on their approval, and you even have to pay a tax for it.
The worst part about the traditional financial system is that banking institutions and governments can overnight block your access to your own assets. So, you never really own that money as long as a centralized institution decides how and when you can access it.
Decentralized finance focuses on creating secure financial services that traditional, centralized institutions cannot control. This new step in the evolution of our financial understanding should drastically reduce censorship and discrimination worldwide.
Here is a simple explanation of the differences between the traditional financial system and decentralized finance:
Traditional Finance (Centralized)
Decentralized Finance (DeFi)
You must share your personal data and source of income.
You do not have to disclose personal and sensitive information.
You can only access financial services in developed countries through a centralized financial institution, e.g., a bank.
You can access financial services, such as lending, borrowing, or investing, from anywhere in the world via the internet.
A bank or government can stop or reverse your transactions.
You do not depend on a central authority to accept how you transfer your assets.
Transactions can take days or weeks.
Transactions take place almost instantly.
Operation time is limited. Many institutions do not work on weekends or bank holidays.
Operation time is unlimited. You can engage in all sorts of transactions 24/7 and 365 days a year.
Lastly, with DeFi, you can trust that a protocol will do exactly as it said it would do because that’s how it was programmed. So, your assets are safe from major financial crises. For instance, financial recessions like those in 1929 or 2008 can wipe your accounts if banks or other centralized financial institutions go bankrupt.
Is DeFi Safe?
So far, it seems like decentralized finance is a divine invention that might eliminate poverty and world hunger. But, that remains to be seen. This technological breakthrough is very promising, but it’s not without flaws. And, those planning to use it are wondering how secure DeFi really is.
From the start, we should mention that decentralized applications are still in an experimental phase. Like we mentioned before, some of them are stable and highly secure. However, others are scams or run on vulnerable code that, sooner or later, will be the victim of cybercrime.
Decentralized finance gives more power to its users. However, this new level of control comes with a roaring responsibility. You, as a user, are the only person accountable for the security of your wallet and, therefore, your assets.
You have to do your due diligence before using any DeFi project or creating one. Also, it is up to you to research and discover whether investments in the decentralized ecosystem are profitable or not.
In conclusion, DeFi is as safe and secure as you make it be. If you are well-informed, diligent, and well-intended, decentralized finance should be a viable environment for your investments in the long run.
DeFi Use Cases
What DeFi applications are there?
The DeFi space consists of numerous financial products functioning as applications on a blockchain. These projects differ in terms of what they can do. However, they all have two things in common.
Firstly, all DeFi protocols are decentralized. This means that the developers who created them do not control them. Instead, they vote themselves out from any power position, and the rest of the users take joint control over the project.
Secondly, all DeFi applications are non-custodial. This means that the team of developers behind the project never interferes with your assets. Contrary to traditional banks, in DeFi, nobody peeks into your crypto wallet unless you allow them. Above all, nobody can legally force you to disclose your portfolio.
As mentioned above, the DeFi universe is in continuous expansion. New DApps appear every day, and some foray into the endless possibilities of decentralized finance. That’s how new financial instruments surface on the market.
As of August 2021, the most proficient and popular types of DeFi applications include:
DeFi Money Markets
DeFi DEX Aggregators
DeFi Asset Management
We’ll break them down to clear the air on how many DeFi protocols exist. More so, we’ll provide examples for each type of application to ease your way into the world of decentralized finance.
DeFi Money Markets
Money markets are protocols that enable users to make their assets work for them. For instance, they can lend their crypto to other projects that use them to develop. In return, they receive interest for a particular period. Users can also use these applications for borrowing, buying, selling, and wholesale trading.
Some of the most popular money markets in decentralized finance include:
On Compound, you can lend and borrow popular cryptocurrencies like Ether, Dai, and Tether.
The compound is the second DeFi protocol to emerge after Maker DAO. Also, it is partly responsible for the DeFi explosion of 2020. In June of that year, the project released its native token COMP. This allowed users to loan cryptocurrencies to other users on the platform via COMP. In return, they would receive rewards and interest, or yield, in substantial amounts.
Suddenly, “yield farming” became the talk of the town. As a result, many investors started investing in Compound and similar protocols. This craze put the other DeFi protocols in the spotlight and caused the locked value of total protocols to increase by $16 billion in one year.
This open-source, high-liquidity protocol allows users to earn interest on deposits and borrow as much crypto as they want as long as they can guarantee the payback.
This permissionless lending platform is the creator of the first stablecoin, Dai. Today, you can autonomously take out a loan in Dai by staking other digital assets such as ether (ETH) as collateral.
Yearn is a suite of DeFi products that enables users, among others, to generate a yield from lending crypto assets to others who hold the protocol’s native token, YFI.
Trading protocols in DeFi let you engage in pretty much any financial operation you can imagine. These applications function as automated market makers (AMM) or decentralized exchanges. Also, they enable you to farm and stack yields, swap tokens, earn interest, and trade ERC-20 tokens on community-driven platforms.
Some of the best known DeFi trading applications include:
This DeFi protocol is one of the most popular AMMs and yield farms. However, contrary to other decentralized finance protocols, PancakeSwap is not built on Ethereum. Instead, it is developed and runs on the Binance Smart Chain, the proprietary blockchain of the Binance DEX.
An automated market maker (AMM) is a system that ensures liquidity for an exchange it operates via automated trading.
Uniswap is a fully decentralized exchange that enables automated transactions via smart contracts between cryptocurrency tokens on the Ethereum blockchain.
With Uniswap, Sushiswap is one of the most popular decentralized exchanges for swapping, earning, stacking yields, lending, borrowing, and leveraging crypto tokens.
This decentralized exchange facilitates the trade between crypto tokens of relatively similar value.
DeFi DEX Aggregators
DEX aggregators are among the top innovations of decentralized finance. These protocols gather information about token values on different exchanges to provide users with the best possible rates for trading and swapping.
Here are some of the best-performing DEX aggregators:
This protocol is ideal for first-time crypto traders who get the best rates on Ethereum and Binance Smart Chain.
This DEX aggregator connects liquidity from various sources to provide secure and instant operations on a decentralized exchange.
Derivatives in decentralized finance refer to contracts between two or more entities whose value stems from an agreed-upon underlying financial asset or set of assets. Other instruments include bonds, commodities, currencies, interest rates, market indexes, and stocks.
Thanks to DeFi and smart contracts, users can tokenize derivatives without the approval of a third party. This practice enables investors to take advantage of unique opportunities when the market produces them. Some of the most popular DeFi derivatives include:
This decentralized exchange enables users to trade various assets on the Ethereum blockchain through digital assets that simulate them, also known as synthetic assets.
This protocol enables users to create fungible synthetic assets that track the value of real-world assets, such as gold, USD, etc.
Stablecoins are digital assets whose value is pegged to real-world assets, such as fiat currencies, gold, futures, etc. Thus, they facilitate transactions in decentralized finance without the usual volatility of cryptocurrencies. Simply put, they are as volatile as their real-world counterparts.
In DeFi, investors can use stablecoins to yield digital assets without fearing that intense volatility would destroy their portfolios. Popular stablecoin projects include:
This DeFi protocol has its native stablecoin, called AMPL, which is pegged to USD. However, some refer to it as a soft-pegged digital currency whose daily supply changes depending on market conditions and development.
Terra is more than a simple DeFi protocol. This project aims to become a financial ecosystem supporting stablecoins, synthetic assets, and saving accounts.
Also known as crypto lending, staking in DeFi is a way of earning passive income on your crypto assets. This practice requires you to “lock” your crypto tokens into a DeFi smart contract running on the Ethereum blockchain through a DeFi protocol. In layman’s terms, it is similar to having a fixed deposit with your bank, and the bank pays you interest on that money. Here, you earn interest in specific tokens.
This DeFi protocol is paving the way for the future release of Ethereum 2.0 by providing a secure environment for staking digital assets.
DeFi Asset Management
This term works as an umbrella for a wide range of decentralized finance products. For instance, protocols specializing in asset management take your assets and place them in other protocols specializing in staking and lending. There, they move them from one farming pool to another to generate higher yields.
Asset management services are ideal for beginner crypto investors who don’t have the technical or financial know-how to yield their assets.
Harvest Farm takes users’ deposits and automatically puts them to work on the best yielding platforms in the decentralized finance sector. The protocol also has a native token, FARM, which gives participants a profit share in the yield farming revenue and increases their holdings by providing liquidity in Uniswap.
Like traditional insurance on real-world assets, insurance in DeFi protects crypto holders from loss for a wide range of reasons in exchange for a regular fee. In addition, since the explosion of decentralized finance, some protocols have experienced unforeseen success and growth, allowing crypto investors to sleep better at night.
Nexus Mutual is a DeFi insurance protocol built on the Ethereum blockchain that enables users to access insurance funds trustless and decentralized. This protocol should reimburse crypto holders in case of smart contract failure of exchange hacks.
Investing in decentralized finance protocols is highly popular nowadays. Crypto veterans may find it easier to navigate the myriad of protocols, each with its own purpose and mechanisms. However, beginner investors may find it overwhelming to understand DeFi fast. That’s why we present this SWOT analysis of DeFi and help you get a better idea of what you can expect from bankrolling it.
DeFi’s biggest strength is the liberalization from the slow, centralized, traditional financial system. It gives people more power and control over their assets. Even more, it reduces the risk of human error and mismanagement, which sometimes banks produce irreparable damage for their clients.
Another significant advantage of DeFi is providing quick and permanent access to a modern financial system. Users can engage in various financial operations 24/7 and 365 days a year without impediments or extra fees. Additionally, they can access it from anywhere in the world simply by using a secure internet connection.
Lastly, decentralized finance is here to stay. The quickly-growing ecosystem can only produce easier and more exciting investment possibilities. For many, it represents a safe, long-term investment strategy with potentially high ROI.
As innovative as DeFi may be, it still has its weak spots. One of them regards its uncertainty. For instance, if a DeFi protocol is built on top of an unstable blockchain, it can be vulnerable to hack attacks and computing errors.
Most DeFi protocols were built on the Ethereum blockchain, which is a reliable basis structure. However, this ever-expanding ecosystem is going through momentous development while upgrading to Ethereum 2.0. This transition could create cracks in the structure and affect some of the DeFi operations, including the users’ dealings involving their assets.
Another weakness of decentralized finance is the system’s overall problem with scalability. As more users join DeFi protocols, the operations take longer to complete and transaction time increases. In the long run, these financial applications may lose their high-speed operations, which made them popular in the first place.
Decentralized finance takes the crypto market’s journey a decisive step closer to reaching its goal - fast and affordable peer-to-peer financial transactions with global reach and independence from central institutions.
DeFi protocols allow people from all backgrounds and communities to improve their financial situations regardless of their professions or education levels. They bring users from all over the world into one financial ecosystem with endless possibilities.
Lastly, decentralized finance enables developers and companies to create groundbreaking financial products and interact in a free environment without the supervision of banks and governments.
DeFi is easy to use even by beginner investors. Nevertheless, it comes with potential threats that could deter even the most experienced financiers. One of them is the challenge of legality in various states. Like most crypto assets, DeFi protocols do not function under specific regulations almost everywhere in the world. As decentralized finance takes more control from centralized institutions, it is easy to see why some governments may not take its adoption lightly.
Criminalizing DeFi use in some jurisdictions could reduce liquidity and affect the system’s credibility. Even more, some users could lose their entire investments overnight.
And, speaking about losing your crypto assets, we cannot end this section without talking about one of the biggest threats in the cryptoverse - self-sabotage. With DeFi, you get more control over your assets. However, you also get more responsibility, which if you don’t take seriously could spell failure.
For example, you are the only one to know the private key that gives access to your crypto wallet. If you lose or forget it, nobody can help you. It’s not the same with centralized banks, where the institution can restore access to your accounts whenever you forget your PIN number.
How to Use Decentralized Finance
Getting started with DeFi
The best part about decentralized finance is that virtually anyone can get into it. However, for some, it’s easier said than done. So, how do you invest in DeFi? How do I start in DeFi? Let’s find out!
Here are four simple steps for how to participate in DeFi:
But, first, do your due diligence and find out what kind of DeFi protocol is best for you.
Get a crypto wallet that supports Ethereum and ERC-20 tokens.
Buy ether or the relevant token to the DeFi protocol of your choice.
It’s that simple! Now, let’s break these steps down and see how DeFi works.
How to choose a DeFi protocol
Further above, we showed the different types of decentralized applications you can use. Now, it’s up to you to discover which one works best with your investment strategy.
For instance, you may choose to become a yield farmer. Therefore, you may want to join a DeFi lending protocol, such as Yearn.Finance. Here, you offer to lend other users or projects your assets. They will use them for development or liquidity. In return, you earn interest and governance tokens, which you can later exchange for other tokens or even fiat currencies.
Another way to make money with DeFi is to put your assets in a decentralized exchange, like Uniswap. Here, you can become a market maker and earn fees from transactions.
You can also provide liquidity to automated market makers (AMMs), such as Compound or Maker. Also known as liquidity mining, this practice enables you to earn interest on your deposit every time the blockchain executes trades through smart contracts in an advantageous manner for your liquidity pool of choice.
Lastly, you can join an asset management platform, such as Harvest. This way, you see your tokens traveling from one DeFi protocol to another, searching for the highest profitable operations. This way, you may enhance your crypto wealth almost effortlessly.
How to choose a wallet for DeFi
Almost all DeFi protocols are built on Ethereum and use ERC-20 tokens. Therefore, you must use a wallet compatible with these digital coins. Now, you may want to use hot storage for cryptocurrencies when using decentralized wallets.
Hot wallets are called “hot” because they are always connected to the internet. That makes them more susceptible to cyber-attacks. On the other hand, these applications are easy to use on your desktop or mobile devices. They are quick to access and trade on the go. Lastly, they are affordable but never free.
Examples of hot wallets for Ethereum and ERC-20 tokens include Electrum, Exodus, and BitPay.
Cold wallets are not connected to the internet. Therefore, the risk of hackers stealing your assets is “dead cold.” However, you cannot quickly operate on DeFi protocols to take advantage of rare opportunities with a cold wallet. Therefore, you should use cold wallets only for long-term storage and rare use. Examples of cold hardware wallets for Ethereum and ERC-20 tokens include Ledger Nano S, Trezor One, and Ledger Nano X. Alternatively. You can keep your public address and private key written on a piece of paper and far from the reach of cybercriminals. Lock it in a safe and never reveal its combination.
How to buy DeFi
By now, you should have a DeFi protocol of choice and a hot wallet ready to store your digital assets. Next, it’s time to visit a crypto exchange and buy the tokens relevant to the protocol you have chosen. If you are on the protocol’s website, you should find large banners reading “Buy X token here.” Clicking on that link should redirect you to the crypto exchange that sells it.
Popular crypto exchanges include Binance, Coinbase, Bitstamp, and Bitfinex. You can visit them independently from the protocol’s site to buy the tokens you need.
Play the DeFi game!
Start using the tokens depending on the protocol’s role and features, such as lending, liquidity mining, etc. Then, use their tutorials and DeFi tools to increase your knowledge and better understand decentralized finance. Learn as you go and adapt your investing strategy to boost your winnings.
Finally, you should keep in mind that DeFi is full of opportunities but not 100% safe. The ecosystem is marred by scammers, risks, and both human and computing errors. Therefore, you should always keep up-to-date with the latest news, innovations, and changes in DeFi. Stay safe and be careful. Above all, never invest more than you can afford to lose!
Here is a list of tools that should ease your incursion into DeFi:
DappRadar – This easy-to-use tool enables you to track, analyze, and discover DApps.
Defiyield – This tool is a bit more advanced but highly proficient once you get the hang of it. You should be able to trade and swap various assets across different blockchains and also earn yield from staking and lending.
DeFi Rating – With DeFi Rating, you get a straightforward overview of various DeFi positions in protocols across the board, such as Compound and Synthetix. This way, you can analyze their performance and decide where to invest next.
Zapper – This tool offers a simple dashboard for numerous decentralized finance protocols. If you have assets placed in these protocols, you can see how they are performing in real-time.
Nansen – This tool provides extensive Ethereum wallet analytics.
Furucombo – Beginner investors can use this tool to create effective DeFi strategies through drag-and-drop functions.
5 Reasons to Get into DeFi Today
A beginner’s introduction to the cryptoverse can be overwhelming. Trying to understand Bitcoin, altcoins, the blockchain, and smart contracts is daunting enough without adding decentralized finance into the mix as well. Nevertheless, if this is the first chapter of your crypto journey, DeFi can be a successful experience without mastering the others. Here are five reasons why you should invest in DeFi starting right now:
1. You get to be the early bird
We all know the saying “the early bird gets the worm.” Besides being an ornithological truth, this age-old proverb states a tried and tested truth – by starting something early. Then, you can maximize the outcome.
DeFi exploded in 2020, and if you are reading this anytime before 2023, it is similar to reading about Bitcoin in 2012. This new technology has wide margins of development. Some protocols can start anonymously and become global sensations in the space of six months. Subsequently, their tokens can surge in value from only a few cents to five-digit prices.
The ideal time to get into DeFi was yesterday. However, the ecosystem is still in its early, experimental stages. So, you still have a good chance at being one of the initial investors with potentially high profit in the long term.
2. Decentralized finance is highly versatile
At first, cryptocurrencies put off many investors due to their complex nature. You may be proficient at trading gold, futures, and real estate. However, crypto mining may seem alien and difficult to grasp.
Decentralized finance blows the doors wide open to the world of cryptocurrencies through a wide range of financial products. Most DeFi protocols are easy to understand if you have at least a high-school education. After all, you can quickly get your head around concepts like lending, borrowing, and trading.
Additionally, DeFi has several user-friendly tools and applications that ease the immersion of neophyte investors. For instance, you can buy DeFi tokens and place them in asset management protocols that move them around long enough to make you a profit.
DeFi should be easy to navigate whether you get behind the wheel or leave it on auto-pilot.
3. You get to be in control
Decentralized finance removes intermediaries, intermediaries, and any centralized institution from taking part in your financial maneuvers. In this environment, banks and governments cannot interfere with your money. This means that they cannot tax your transactions, peek into your account or shut it down whenever they please.
In DeFi, you are the sole person responsible for your assets and financial operations. If you want to lend digital coins to another participant, you do it. The same goes for borrowing, liquidity mining, or yield farming.
4. A new level of financial transparency
Imagine you have a groundbreaking idea about how your bank can improve its operations and services. So, you write them a letter hoping that your input may help. The bank may respond with a generic “thank you for your observation” letter in exceptional cases. They might add, “We will look into it. But, please don’t call us. We won’t call you either.”
That’s how much your opinion matters to the people who oversee your financial accounts.
In decentralized finance, your opinion can change the way a DeFi protocol works. For instance, some of these projects work as decentralized autonomous organizations (DAOs). This means that the protocol is under the control of its users only, and no centralized authority decides its roadmap.
In a DAO, you can suggest proposals and attract enough votes from the other participants to change how the protocol functions. This transparent, democratic governance makes every single participant equally important and decisive.
5. DeFi could reduce global corruption.
In case of an epochal financial crisis, traditional institutions like investment funds and banks could go bankrupt. In extreme cases, people would lose all their savings and assets due to these centralized organizations failing at what they promised to succeed.
In decentralized finance, anyone can audit the protocols and determine whether they would run off with the money in an exceptional case. Also, the underlying codes running these applications are visible to all. So you can witness their development in real-time, and there is no one behind the curtains pulling strings.
This permissionless, open-source nature of DeFi makes it less likely to witness corruption. Contrary to traditional centralized institutions, the financial reins of this industry cannot fall into the hands of a few oligarchs.
FAQ - What Do We Know About DeFi?
Is DeFi a scam?
No, DeFi is not a scam. It is an open-source environment where users can create or engage with a wide range of financial products. While most DeFi protocols are safe and stable, a small fraction consists of scams and vulnerable applications. By doing your due diligence, you don’t risk using any of the latter and thus increase your chances of DeFi success.
Can I make money with DeFi?
Millions of crypto holders worldwide turn a profit every day from DeFi. So, yes, you can make money with DeFi. The primary condition to earning a profit is researching and understanding the DeFi protocol you want to endorse. Secondly, you should never invest more than you are ready to lose.
Is DeFi too risky?
DeFi is as risky as you make it be. If you invest all your financial possessions in a decentralized protocol during a bull run and sell during a bear market, then yes, you have made it extremely risky. Also, you most probably went bankrupt.
DeFi’s risk factor depends on your responsibility and common sense. Put, if you research the technology and do your due diligence, there’s no reason you shouldn’t give DeFi a try.
What is yield farming?
Yield farming is a process that enables crypto users to lend their assets and earn rewards and interest, also known as yield, in return.
What is an Automated Market Maker (AMM)?
An automated market maker (AMM) is a system that ensures liquidity for an exchange it operates via automated trading.
What is Total Value Locked (TVL) in DeFi?
The total value locked represents the number of assets present in a specific protocol at any given time. For example, in DeFi, TVL represents the entire amount of liquidity users have put in functioning protocols.
3 January – Satoshi Nakamoto creates the Bitcoin blockchain by mining the “genesis block.” He also created the first 50 Bitcoins, which can never be used or spent. The age of cryptocurrencies begins!
30 July – Ethereum is launched through the Frontier barebone implementation. Contrary to the Bitcoin blockchain, the Ethereum blockchain allows users to develop and execute decentralized applications on top of it.
Maker is launched on Ethereum with the financial backing of Venture Capital. As one of the pioneer projects of decentralized finance, Maker evolved significantly in the past four years. Today, it operates through a series of smart contracts that set all the rules regarding borrowing, lending, and repaying loans on the platform.
One of the most popular uses cases of the Ethereum blockchain, Initial Coin Offerings (ICOs), enables a handful of decentralized protocols. Among them, we find many of today’s best-performing DeFi protocols, such as Aave, Synthetix, and Bancor.
The term “user-to-contract” becomes popular as users discover the efficiency of interacting with smart contracts containing pooled funds from numerous users.
First DeFi Projects
A substantial number of new DeFi projects see the life of the day. For example, projects like Compound and Uniswap promote the concepts of liquidity mining, automated market makers, and liquidity pools.
Other protocols, such as Ren (Republic Protocol), Ox, and Kyber, expand the DeFi space, which has very few supporters at the time.
Synthetix launches the first incentive liquidity program in the DeFi space. This new mechanism doesn’t make too many waves. However, it will prove fundamental during the 2020 DeFi craze.
COVID-19 & DeFi
12 March – The COVID-19 pandemic wreaks havoc across the world hitting all financial markets heavily. The crypto industry gets a huge blow as it experiences massive value drops and a historical “Black Thursday.”
April – As the Ethereum price plummeted by 30%, the gas prices increased substantially. Most investors looked into ways of saving their portfolios without exiting the crypto market. Suddenly, increasing their collaterals through lending and asset trading, both options on offer from DeFi protocols became highly attractive.
May – Compound became one of the most appealing DeFi protocols thanks to the incentives offered to users lending their assets to liquidity pools.
June – Yearn.Finance, which was created in 2020 by Andre Cronje, quickly rose to widespread popularity. Its mechanism that transferred assets between protocols depending on their performances helped beginner investors make a profit without too much hassle.
August – Several DeFi protocols surfaced during the DeFi craze attracting substantial funds from investors. However, some of them were rushed through the development stages and failed miserably. It is the case of Yam Finance, which succumbed after only 10 days of development and less than 24 hours of running. A minor bug was enough to kill a fraction of the $500 million locked in its protocol.
September – A new protocol, Sushiswap, appears on the market and siphons over $1B of liquidity in SUSHI tokens from Uniswap. The event attracted a great deal of attention and bad press for the DeFi movement. It was only a few days later when the main Sushiswap developer ChefNomi sold his entire stake of SUSHI tokens that the fiery debates calmed down.
The total value of DeFi protocols went from $800 million in April to over $10 billion in September.
Autumn-Winter – The market was hit by a negative sentiment that saw most of the DeFi protocols’ values drop significantly. A series of hack attacks on projects like Harvest, Akropolis, Pickle, and Cover was enough to cool down the DeFi craze.
The DeFi Craze
Starting with March, the crypto market witnessed an unforeseen increase in both value and popularity. Bitcoin and most altcoins surpassed the investors’ expectations and set one ATH after another. This spring upheaval increases the value of the DeFi sector to its all-time high, so far, at $89.722 billion.
May – The bull run ended abruptly, and most cryptocurrencies lost most of their hard-earned gains. The total locked value in DeFi protocols dropped below $50 billion.
August – A year since the 2020 summer craze marked a significant interest rejuvenation in DeFi protocols. As a result, the total locked value reached $82 billion, where it stands at the time of this writing.
Future industry developments, such as the upcoming release of Ethereum 2.0, should take the decentralized finance sector to a whole new level. While this movement is new, it already shows signs of a bright and success-breeding future.
All Crypto Adventure content is not investment advice. It is intended for informational purposes only. DO NOT miss construe any such information or other material as legal, tax, investment, financial, or other advice.
DO YOUR OWN RESEARCH
Crypto Adventure encourages all of its readers to conduct a thorough analysis of all projects. It is essential to do your own analysis before making any investment based on your circumstances. If possible, consulting a financial professional is also recommended prior to making any investment decisions.