Profiting from DEFI

• What is Defi and what can you do with it？

• To take advantage of Defi chances, you'll need the following items.

• The vocabulary and important phrases used in Defi

• Interacting with Defi protocols carries a number of hazards.

Decentralised finance, or Defi, is a system that allows anyone to use financial services without having to go through a middleman. This is accomplished by repurposing standard banking methods in the context of cryptocurrency, with blockchain serving as the mechanism of distributing, recording, and storing value.

Consider all of the banking services you're familiar with: savings, lending, credit, and insurance. All of this is provided by Defi in a permissionless environment.

Why does it require no permission？ To get credit from your bank – or even to get a bank account in the first place – you'll need to do a few things.

To evaluate your creditworthiness, you must present certain documents and pass a background check.

Nobody cares who you are, where you are, or how wealthy you are with Defi. You can interact with Defi and use it to manage your money and grow your wealth if you have an internet-connected device and a basic understanding of how crypto works.

What does Defi look like？

The Defi industry is a subcategory of the cryptocurrency market. Because decentralization is a fundamental element of all blockchains, most of the underlying technology that runs the crypto-economy can be labeled as such.

The difference with Defi is that it is solely focused on utilizing this power to actively manage your wealth without the need for authorization from anyone, including a bank, credit agency, or financial regulator.

A blockchain can't replace traditional financial services on its own; it's just the engine that drives Defi. It needs wheels and a chassis to drive, which is where DEFI comes in, with decentralized applications (dApps) that make it simple to interface with the underlying blockchain and allow you to maintain and grow your coin.

The term Defi is frequently used in the context of Ethereum, the world's largest smart contract network and the second most valued cryptocurrency (ETH) behind Bitcoin.

The Ethereum blockchain currently powers the majority of the Defi sector, however other networks like as Polkadot, TomoChain, and Tron also provide Defi services.

Defi works in the same way regardless of which blockchain is used to support it.

Primitives are essential services that serve as the foundation for decentralized money. Developers then create goods and services for engaging with Defi by building apps on top of these primitives.

Composability refers to the ibility to link together Defi primitives to construct new services by extending their coding and incorporating a user-friendly interface. Because they can be built together like Lego pieces to form new services, Defi primitives are sometimes referred to as Legos.

MakerDAO, whose protocol allows anybody to use their crypto assets as collateral to mint stablecoins, Curve, a protocol for swapping stablecoins, and Compound, a platform for lending and borrowing, are all examples of Defi primitives.

Yearn Finance and Pickle, for example, are second layer platforms that expand on these capabilities, making it easier for consumers to use the core service.

Defi can be compared to a layered sandwich made up of the following ingredients:

• The blockchain network is the bottom layer (e.g. Ethereum)

• Defi primitive in the middle layer (e.g. Maker or Compound)

• Application on the top layer (e.g. Yearn Finance)

When you combine the three, you have a powerful set of tools that integrate traditional finance and cryptography.

What are your options with Defi？

Defi is a financial management and growth tool. In Defi, you can do almost whatever you can do with a digital bank or credit card. Defi uses stablecoins, which are usually tied to the US dollar or a national currency such as EUR or GBP, instead of fiat currency (money deposited in your bank). Instead of using assets such as property, gold, or money as collateral, Defi employs crypto assets such as ETH or BTC.

You don't need to declare your income, present your tax records, or establish your creditworthiness to take out a loan in Defi, for example: all you have to do is lock your crypto assets into a smart contract.

The following services are available to you through Defi:

Saving/Staking

Defi wallets integrate money management capabilities into a mobile or desktop program, allowing you to earn interest on your crypto by staking it into a smart contract and receiving an agreed-upon return paid in the same cryptocurrency.

Borrowing

You can borrow Stablecoins and crypto assets in exchange for interest using the same systems. Because DEFI is permissionless, you can only borrow against existing crypto as collateral, eliminating the need for credit checks and application forms.

Farming for Yield

Yield farming works similarly to staking in that it allows you to earn interest and secondary tokens by locking tokens like ETH into smart contracts. Whereas staking is passive in the sense that funds are locked up once, yield farming is active in the sense that it involves many steps, such as staking ETH to mint a synthetic ETH, yETH, which is then staked somewhere for a Stablecoin, which is then farmed elsewhere.

Provision of Liquidity

Defi users can 'pool' tokens into automated market makers (AMMs) like Uniswap to provide liquidity. You'll get a piece of the fee every time someone swaps between the two tokens in the pool (for example, ETH and USDT).

A way of pricing assets based on an algorithm rather than the usual method of determining price from the points where buyers and sellers meet is called Automated Market Makera.

Smart contracts provide all of these services, as well as many others related to credit, insurance, and derivatives. These are segments of code that have been coded to carry out a certain task.

These are processes that are carried out by people in traditional finance, such as bank managers and accountants. Smart contracts automate this process, resulting in a more efficient and inclusive system.

A smart contract cannot discriminate against you based on your income, gender, or nationality; instead, it merely verifies that a transaction is genuine (for example, do you have enough collateral to obtain the stablecoin loan you requested), after that, it is processed.

When you lend money using a Defi lending platform, for example, you won't have to worry about the borrower taking it and never returning it. The smart contract guarantees that you retain ownership of your original stake (i.e. the money you borrowed) and that you can withdraw it at any moment.

If you use Defi to borrow money, the collateral you must enter into the smart contract will prevent you from defaulting on the obligation, as well as an agreed-upon method for boosting collateral if its value falls below a particular threshold.

As a result, the financial system becomes more open, allowing anybody to participate.

What accounts for the high yields？

Hopefully, you can now see why DEFI is so important. Banking is being reinvented and disrupted by new technology. What used to be only feasible on Wall Street is now possible on a smartphone. New technology alone does not enable high asset returns, therefore how does DEFI get such dramatically greater returns？

• Demand: There is a lot of speculative demand for crypto because of the hype surrounding it and the big rewards it offers. People want access to cryptocurrency - and the huge returns it provides - and are willing to pay exorbitant interest rates to borrow it. Demand is fueled by leverage, which allows traders to risk multiples of their capital in the pursuit of bigger profits.

• Value Perceived: DEFI protocols generate mini-economies by minting their own tokens that are earned as a reward for staking cryptocurrency or providing liquidity. In a bull market, perception is skewed to the point where any new DEFI token is considered to have the potential for a massive gain in value, despite the fact that it is new and has a funny food-related name.

• Altcoin Trading: As the crypto industry expands, and without the ecosystem of new tokens and cryptocurrencies, demand for these new assets develops as well. When it comes to adding new trading pairs, centralized exchanges must follow strict procedures, but a DEX (decentralised exchange) may do so almost instantly using AMM logic.

This means that a cyclic economy of token generation, farming, and trading exists, with fees generated from all of it.

Hazards and risks

Defi is a fantastic invention that many people feel will shape the financial future. Decentralised banking, like any new technology, comes with dangers, both systemic and external.

The possibility of a smart contract vulnerability is a form of systemic risk. If the Defi protocol hasn't been extensively tested for faults, a hacker could take advantage of it and steal money. There is minimal recourse for compensation if this occurs: Remember, Defi removes human organizations from the equation, so there is no helpline to call or claims form to fill out if you lose money.

Vulnerability in Smart Contracts

Unfortunately, as DEFI has grown in popularity, so has the number of new DEFI applications. This has resulted in a significant increase in the use of smart contracts to drain funds.

Defi primitives, such as the ones we mentioned before, are among the safest protocols to utilize because they have been thoroughly audited — albeit they still pose a risk. The more innovative and experimental the Defi service is, the more likely it is to include a vulnerability.

Correction in the market

Many people are interested in DEFI because of the high rates of return you may get on your crypto assets when compared to traditional finance. With interest rates at all-time lows, earning double-digit, if not triple-digit, returns is a distinct possibility.

Much of this is achievable because, as of 2021, we are in a bull market, with high overall market sentiment. This means that:

· there is a lot of demand for the leverage mentioned above, which drives up the rates of return available;

· there is a lot of DEX trading activity, which generates fees for the liquidity providers;

· and there is a perception that all new coins have the potential to rapidly increase in value, regardless of their unique use case, which drives demand for DEFI services that reward users with their native token.

All of the above are vulnerable to a prolonged market correction, which has happened before in the history of cryptocurrency.

In a bad market, demand for leverage would collapse, interest rates would decrease, trading on DEXs would plummet, and benefits for providing liquidity, as well as the perceived value of tokens acquired, would plummet.

'When the tide goes out, we'll see who's been swimming naked,' as the saying goes.

Error by the user

There's also the possibility of human error. While the design of Defi is constantly improving, it is still not as user-friendly as standard banking and savings apps. As a result, having some technical expertise can assist you comprehend what happens when you engage with these protocols and what precautions you should take to avoid losing money.

Don't interact with Defi until you're sure what you're doing, and never invest more money than you can afford to lose in crypto.

Where is Defi going next？

Decentralised finance is still small in comparison to the rest of the financial world, but it is rapidly expanding, and its consumers are mostly tech-savvy cryptocurrency investors. Decentralised finance's key ideals - open access, transparency, and equality – appeal to a large market, including the unbanked and hard to bank.

It will take time for Defi applications to become user-friendly enough for beginners to feel comfortable using them.

It's simple to see why Defi is so appealing, given the low interest rates now available in traditional banking and the substantial yields offered in Defi (APYs can reach double or even triple digit percentages).

Though individual investors may require some time to acclimate to the new world of DEFI, professional investors and financial institutions have a strong incentive to investigate DEFI opportunities due to the higher returns on money they can create. We'll look at more complicated strategies for capturing yield in a subsequent article, but we'll look at a notion called contango in the meantime.