Yield farming is undoubtedly the hottest topic within the cryptocurrency community as the DeFi craze continues with full force. Here’s an in-depth take on it.
Yield farming is a popular topic in the DeFi space for some time now. We know you may have many questions regarding yield farming – What is it? Why is it generating so much buzz?
Let’s start with a simple statistic. In 2020, the DeFi space is so far growing at a rate of 150% in terms of total value locked (TVL) in dollars. In comparison, the crypto market capitalization has so far grown at a rate of only 37%.
Many experts give credit to yield farming for the astounding growth of the DeFi space this year. The progress is because of the concept of liquidity farming. It involves both investors and speculators as they supply liquidity to platforms providing lending and borrowing services. In return, the lending and borrowing platforms pay high-interest rates to them. They also receive a part of the platforms’ tokens as incentives.
Summary:
- Introduction to Yield Farming and DeFi Craze:
- Yield farming is a prominent topic in the DeFi space, contributing to the rapid growth of the sector.
- DeFi’s total value locked (TVL) has surged by 150% in 2020, with yield farming credited for this growth.
- Liquidity providers, known as yield farmers, play a crucial role in platforms like Compound, Curve Finance, and Balancer.
- Genesis of Liquidity Farming:
- Compound’s COMP token distribution on June 14th marked the beginning of the liquidity farming trend.
- Balancer’s BAL token distribution followed suit, contributing to a significant increase in TVL for both platforms.
- Concept of Yield Farming:
- Yield farming involves users locking funds in a protocol (e.g., Compound, Balancer) for lending purposes.
- Users receive rewards, often in the form of the platform’s tokens, and a share of fees for providing liquidity.
- Role of Liquidity Pools in Yield Farming:
- Uniswap and Balancer offer rewards to liquidity providers, encouraging them to add liquidity to pools.
- Liquidity providers earn a share of the fees generated when trades occur in these pools.
- Curve Finance and Its Unique Position:
- Curve Finance, specializing in stablecoin trading, has quickly become a leading DEX liquidity pool.
- Its algorithm focuses on minimizing slippage, making it favorable for high-volume traders.
- Risks Associated with Yield Farming:
- Impermanent Loss: Users may face losses due to volatility when staking non-stablecoin tokens.
- Smart Contract Risks: Hackers can exploit vulnerabilities in smart contracts, posing security threats.
- Protocol Design Risks: Nascent DeFi protocols may be susceptible to gaming of incentives, as seen in YAM Finance.
- Liquidation Risk: Collateral values can be volatile, leading to undercollateralization and potential losses.
- Bubble Risk: DeFi tokens may face speculative bubbles, similar to the 2017 ICO boom.
- Rug Pulls: Developers may manipulate markets or abruptly withdraw liquidity, impacting investors.
- Conclusion:
- Yield farming is a popular trend, attracting users to DeFi, but it comes with inherent risks.
- Investors should be cautious of impermanent loss, smart contract vulnerabilities, liquidation risks, and potential market manipulation.
- Understanding the challenges and only investing what one can afford to lose is crucial in navigating the dynamic landscape of yield farming.