This article is older than 3 years. Protocols and products for “yield farming” and generating outsized yields.AFP via Getty Images
DeFi “yield farming” is the latest meme to excite investors in the crypto universe. Yield farming uses DeFi protocols and products to generate high returns, in some cases reaching annual returns of over 100% when taking into account “cashback” bonuses and incentives.
As a reminder, Decentralized Finance (DeFi) is an ecosystem of decentralized applications that allows anyone with an internet connection to access a variety of financial products and services including crypto asset exchanges, margin trading, financial derivatives, synthetic assets, include algorithmic trading and credit markets.
One of the first common DeFi use cases is high-yield interest income, where users deposit their cryptocurrencies to earn a high return, often 100x higher than a typical commercial bank savings account (i.e. 10% vs. 0.1% APR). ). DeFi Yield Farming takes this basic concept and increases returns by using leverage to gain additional exposure to various crypto assets collateralized by USD-backed stablecoins.
For example, according to yesterday's interest rates, a user who borrowed 1,000 DAI (equivalent to $1,000) and took out a loan on the BAT crypto asset worth $2,500 would have received 77.48% APY in daily COMP-paid. Rewards generated assuming a COMP token price of $360. This could all be done using InstaDapp’s maximize COMP mining feature. Users must be careful to maintain the appropriate collateralization ratio to prevent the liquidation of their underlying 1,000 DAI position. Notably, COMP rewards exceed the cost of borrowing BAT, making cryptocurrency borrowing profitable.
For complete instructions, see the video below.
Angel investor Tony Sheng highlights some of these return-generating opportunities in the following Twitter thread.
Yield Farming Fuels Compound overtakes MakerDAO
Compound overtook MakerDAO last week and is now the most popular DeFi lending protocol by total value locked in the protocol, at over $550 million. Compound was propelled forward by the launch of the protocol's governance and rewards token, COMP. The COMP token was initially awarded to liquidity providers and users on the Compound platform, and the token price quickly exploded from around $16 to $360 in anticipation of the Coinbase listing on Monday, June 22nd.
Compound's current fully diluted market cap is $2.7 billion. However, some are raising concerns as the initial float or circulating supply of tokens available to market participants is only about 25% of the total supply. Considering that a large percentage of COMP tokens are hoarded by a few users and the top 10 addresses own 85% of the token supply, the actual float is significantly lower, making it much easier for the token price to rise in the short term .
About 2,880 COMP tokens are distributed to users of the protocol every day. The distribution is allocated to each market (ETH, USDT, BAT, USDC, etc.) in proportion to the interest accrued in that market, with 50% of the distribution going to suppliers and 50% to borrowers. These “cashback” rewards for lenders and borrowers, combined with leverage, are what deliver superior returns for investors.
High risk always comes with high returns. The nascent DeFi ecosystem is still finding its footing, and as the space matures, there will be multiple protocol exploits and explosions, as evidenced by the recent dForce and bZx exploits. Since DeFi protocols use automated smart contracts without intermediaries and crypto assets are carrier assets without the ability to reverse transactions, there is always the risk of a bug in the code or other structural attack vector that hackers could exploit to steal user funds.
Ethereum founder Vitalik Buterin expressed concern about the inherent risks and the community’s overemphasis on high-yield DeFi products.
Considering that the average interest rate on bank savings accounts is 0.1% and DeFi products can generate over 100% annual returns, the question becomes, are these products inherently 1,000 times riskier? Probably not, and that's why smart investors and traders take advantage of these arbitrage opportunities. These rates will naturally decline over time as the space increases in size and volume and DeFi products become battle-tested and proven. Until then, DeFi yield farming will serve as a catalyst to increase user adoption and get users used to the idea of unbanking themselves.
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I am the head of business development and partnerships at DRPC, a decentralized provider of RPC nodes for Web3 applications. I previously worked on strategic partnerships at Kraken Digital Asset Exchange and was previously VP of Digital Asset Strategy at Fundstrat Global Advisors. I was also the founder and CEO of NovaBlock Capital, a leading technology investment and research firm focused on digital asset adoption. I attended the University of Pennsylvania and received a bachelor's degree in economics from the Wharton School.
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