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Decentralised finance (DeFi)

DeFi or decentralised finance is a set of specialised services that use smart contracts and decentralised applications to operate. It is the application of such technologies that makes it possible to create an independent financial ecosystem that is not subject to the influence of external regulators and minimizes the human factor in its operation.

 

CONTENTS

  • What are the directions in DeFi
  • DEX
  • Loans
  • Farming
  • Aggregators
  • Synthetic assets
  • Equities
  • Escrow
  • Faster transactions and lower fees
  • Which blockchains support DeFi
  • Indicators
  • Legal aspects of DeFi
  • Whether DeFi can be legally harmed
  • How much and how much you can earn
  • Top 10 largest DeFi projects
  • What are Decentralized Cash Funds
  • Is there an ETF for DeFi and where to buy it
  • Big companies and whales
  • Major issues and challenges
  • Reviews and comments

DeFi is used in the provision of various financial services, thus removing the need to depend on centralised financial companies. Additionally, blockchain eliminates time constraints, the system can be used by any user 24 hours a day, any day of the week all year round.The DeFi app is open on a tablet screen.

 

DeFi is an independent financial system that is fully transparent and open, unlike alternative centralised services. Users interact directly with each other without intermediary organizations. It is a universal tool for creating a complete decentralised system for various financial issues.

 

This cryptocurrency trend is explained in the video below and further in the article, with examples.

 

What are the trends in DeFi

There are 7 directions in which the platforms operate.

 

DEX

The centralized exchanges Binance, EXMO, Currency.com, Nominex, etc. are very popular and do not give their clients the ability to control the funds in their account. In case the system is hacked, they risk losing their assets.

 

DEX, which is decentralised, has been created as an alternative. Their system works in such a way that every transaction is conducted directly between users, while the platform itself does not access the funds or store its clients' assets. This is why Binance DEX, Uniswap and others have emerged. They are based on a blockchain whose blocks provide only the ability to enter into an order to buy or sell assets.

 

Loans

Full-fledged cryptocurrency lending services. Some users lend their coins and others take theirs. For both parties, this way of lending is far more profitable and secure than the standard centralised scheme offered by financial institutions. Even if the deal is unsuccessful and the party fails to meet their debt obligations, the funds will simply be returned to the lender with interest, because in order to borrow money you will need to provide the platform with collateral, which is proof of the borrower's security.

 

Farming

Farming refers to any action aimed at obtaining tokens for some kind of activity. This could be giving or taking credit, supplying liquidity or voting. Farming has become very popular because of the opportunity to earn good interest.

 

Aggregators

These are platforms that provide an intermediary service. But the structure of the blockchain allows the aggregators to additionally assume the role of a regulator of the relationship between the user and the service provider. The main focus is on exchanges, decentralised applications and other blockchain-based financial services and programmes. The main purpose of an aggregator is to connect completely disconnected and unconnected projects that are based on different blockchains and therefore cannot work together. One example is the 1inch project, which matches the best coin exchange rates across all DEXs.

 

Synthetic assets

Synthetic assets open on a tablet screen.Synthetic assets include contracts whose value is determined based on the underlying assets (cryptocurrency, stocks, indices, commodities, etc.). One of the main uses of derivatives is to hedge transaction risks.

 

Gradually, derivatives are moving from centralised platforms to DeFi-platforms, which allow access to the underlying assets without the need to buy them.

 

Equities

DeFi projects can be used to create and issue shares. The traded person then bypasses the need to approach intermediaries, which are financial institutions, as in traditional trading. Despite this, such securities are fully compliant with the law. Blockchain shares are tokens that have received some of the functions and features of securities. They are called security tokens.

 

There are several ways to use security-tokens:

  • a debt instrument;
  • an investment vehicle;
  • derivative;
  • a digital stake.

Another major advantage is increased liquidity. Blocks in the chain allow available shares to be split into smaller shares. Therefore, even with low starting liquidity, it is possible to split the token in such a way as to increase this parameter.

 

Escrow

These are platforms that allow activities on cryptocurrency exchanges, preventing funds from reaching the servers of that exchange. DeFi-escrow accounts receive funds, which completely removes the risk of hacking and wallet hacking within the exchange.

 

Faster transactions and lower commissions

The unit of processing time on the Ethereum virtual machine is called gas. It is the amount of gas that needs to be reduced to speed up transactions, which will also result in lower commissions in DeFi. In order to save money, it is advisable to heed the following advice.

 

The price of gas is constantly changing, so it is advisable to familiarise yourself with this parameter before carrying out a transaction. The wallets do not always show the correct fee, so the fees may end up being higher or lower than the stated figure.

Pay attention to transaction times. It's best to make transfers when network congestion is much lower. This is around UTC or URC+1.

There are a number of transactions that can be done at a cheap price regardless of the length of time it takes to process the payment. For example, DAI generation from the MakerDAO repository. That said, there are also transactions that are particularly expensive, such as creating a DSProxy or a smart wallet.

Pay attention to problems. MetaMask and other wallets have an alert system that signals a possible transaction failure.

Which blockchains support DeFi

DeFi smart contract platforms operate on the following protocols. The market is constantly changing, so this mini-rating can quickly become inaccurate.

 

Ethereum is the most popular smart contract used by DeFi. It runs on ERC20 tokens. One of its distinguishing features is the ease of programming, which gives developers the ability to modify and improve existing projects.

Binance Smart Chain (BSC) operates on the proprietary BEP-20 token standard and uses ETH's counterpart, BNB's own token, for trading. It is a centralised blockchain that operates on the PoSA consensus algorithm.

Polkadot is a project started by one of Ethereum's founders. It is used to interact with other blockchains.

Tron is a Chinese blockchain used by the Chinese exchange JustSwap and the credit application JustLend. A feature is the blockchain ecosystem's dependence on the founder's reputation.

Cardano is the project of another of Ethereum's founders. An update to Cardano, planned for 2021, will change the mechanics of calculating transfer commissions. The commissions will be fixed.

HECO is a product from Huobi, launched on its own platform. Necessary to reduce the development and connectivity costs of users, assets and applications of the decentralised network.

Indicators

There is a Defi Pulse Index (DPI) to track activity towards decentralised finance. It weighs the industry's largest tokens (currently YFI, LEND, COMP, SNX, MKR, REN, KNC, LRC, BAL, REPv2). The DPI rate and its values can be tracked on the interactive chart below.

 

It correlates with the amount of funds blocked in DeFi projects. This indicator is called TVL (Total Value Locked). The chart can be tracked on the Debank website. Here you can sort the data by blockchain type and view the largest DeFi projects in terms of capitalisation, which are active at that moment.

 

Legal aspects of DeFi

DeFi are decentralised systems on a blockchain that communicate with each other using smart contracts based solely on mathematical algorithms. All this becomes the reason why this decentralisation causes a major problem – no one is responsible for the actions of the participants within the system.The legal aspects in DeFi are displayed on the IPad.

 

All movement of funds and the conclusion of new smart contracts is an automatic process that cannot be influenced by outsiders. Because of this, it is impossible to find individuals who are responsible for preserving financial assets. As a result, blockchain becomes not only an advantage, but also a problem. What are the risks of using DeFi.

 

Risks from smart contracts. The system is built in such a way that the protocols are constantly interacting with each other in order to perform one action or another. Therefore, if a critical error occurs in any of the protocols, a smart contract will result in a system-wide vulnerability through which any point in the chain can be penetrated.

Regulatory risks. Despite all the claims that the system is decentralised, not every DeFi service is actually decentralised. Some of the services are run by project managers. This can lead to lawsuits against the creators.

DeFi protocols have already been hacked several times. Such critical bugs have occurred with bZx, Fulcrum, Dforce, BlockFi and Balancer. Most of them provided short-term unsecured loans through a flash loan tool. But the openness of the systems allowed companies to quickly find the vulnerability and fix it through a blockchain integrity reviewer.

 

Could DeFi be damaged by legislation

If government agencies decide to take control of decentralised financial platforms, this will cause DeFi to change completely. From then on, they will no longer have such popularity, as they will lose their main quality – decentralisation – and become regular banks.

 

How much and how much can be earned

DeFi platforms are one of the modern opportunities to earn extra income from cryptocurrency. There are five ways to use the funds to earn dividends:

 

Income farming. Receiving a reward from the protocol. Accrued for performing some useful action within the network that benefits the popularity and activity of the blockchain.

DeFi Stacking. An investment in a staking pool, formed in the user's wallet. Such pools are needed to increase interest in the coin by increasing demand due to a reduction in active coins. From the resulting difference in value, each participant in the steaking pool receives a reward. But in some cases, staking may result in a loss of funds if the value of the coin only decreases after the pool is introduced.

Borrowing funds for margin trading on decentralised exchanges. The transfer of funds to DEX as a loan at interest to another blockchain participant. With the funds received, the user will be able to enter into a long or short position. This method is quite secure, because if the transaction is unsuccessful, the funds will simply be returned to the lender from the collateral provided.

Supply of liquidity. Decentralised applications and protocols are willing to reward users who use their product, thereby attracting other users to the project. This is done by placing funds in the protocol to be used later for trading, trading, etc. Part of the collected commission goes to the investor as a reward for delivering liquidity.

Peer-to-peer lending. Pools and smart contracts are excellent for developing the credit side. For each side of the transaction, the interest is calculated depending on the supply and demand for the token in which the transaction was made.

Top 10 biggest DeFi projects

The largest DeFi projects are the following.

 

Uniswap (UNI) is the market leader in DeFi, which uses the AMM system to maintain sufficient liquidity for ERC 20 tokens. The token appeared in 2020, used as a reward for users.

Chainlink (LINK) – used mainly by the decentralised oracle network, established in 2019. The advantage of the coin is its stability.

Dai (DAI) – an altcoin that avoids price fluctuations due to its peg to the US dollar. It is used to make transfers within DeFi systems, and is identical to USDT in purpose.

PancakeSwap (CAKE) is a coin from DEX with a similar name. The token is used to create Binance smart chains. CAKE can be invested in steaks available on the developer's official website to receive rewards in the form of additional CAKE.

YouHolder – The project was launched in 2018 as a platform for cryptocurrency lending. The project is already actively working with major European banks to improve the security of customers' digital assets.

Nexo – the company is actively introducing new products to replace traditional tools from centralised banks. Users can earn interest on crypto-assets, thereby earning money on the platform.

BlockFi – the exchange launched in 2018 and later became a company that provides a wide range of financial products useful for both individual traders and large companies.

Aave (AAVE) – used to lend cryptocurrency to users. Originally called ETHLend and linked to the LEND token, but was rebranded in 2018 as new lending capabilities were added to the coin's features.

Maker (MKR) is a service token that allows the DAI altcoin value to be fixed at 1 USD. Coins are destroyed and re-created for this purpose, which keeps the value in balance.

SushiSwap (SUSHI) is a counterpart and competitor to Uniswap, which has more investment, farming and staking capabilities.

What are decentralised cash funds

Decentralised cash funds are funds that are collected from the cash income and savings of businesses and people. These funds are the mainstay of the financial system. Part of the received resources of the fund are distributed in accordance with the rules of financial law on the revenues of budgetary and extra-budgetary funds. They have nothing to do with DeFi.

 

Are there ETFs for DeFi and where to buy

An ETF is a set of securities, this includes only shares of companies that can be bought and sold on an exchange. Blockchain is actively used in a variety of niches, but ETF providers are not yet connected to DeFi. But given how quickly these platforms are taking over various financial areas, once the legal nuances are settled, users will be able to invest in ETFs as well.

 

Big companies and whales

One of the biggest investors in blockchain is Tesla. Their aim is to switch entirely to income-producing assets that allow them to earn interest through embedded features. So getting rid of the ballast is useful and lucrative for a business of this calibre.

 

Key issues and challenges

DeFi's active phase of development came in 2020, the reason for this boom was the coronavirus that affected the entire economy. At that time the citizens of many countries realized that their national currency is too dependent on global trends, so they began to look for ways to circumvent the impending financial crisis. It is the decentralised economy that allows for greater efficiency and flexibility when compared to the classical financial and economic model.

 

Recently, it has been clearly demonstrated how actively a DeFi project can grow. This time, credit platform Compound was able to increase its total asset capitalisation six-fold in one month: to $6.5 billion. This is direct evidence that traders and investors are interested in decentralised projects.

 

The wave of interest in DeFi is not over, but continues to gain momentum. New technologies are being introduced in all economic spheres. Only DeFi will make it possible to work with several platforms at once, which without this technology could not form a profitable tandem.

 

Albert Gonzales

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