Decentralized finance on Ethereum has grown increasingly popular throughout 2019 and it's continued growth has recently pushed it past $1 Billion of total locked funds in various De-Fi protocols, according to DeFi Pulse, a popular tracking website for decentralized finance.
The concepts introduced by De-Fi are groundbreaking and bold, with levels of transparency and global accessibility that has never before been available in traditional finance. The fact of the matter is that anyone with an internet connection can start using decentralized finance today, with no limits whatsoever. There is no credit score in DeFi.
But what are the things you can actually do in DeFi, what drives this rapidly increasing popularity? This is what we’ll be talking about today, where we’ll look at two most popular activities - lending and borrowing, through options available in DeFi Saver, one of the currently most popular De-Fi management apps.
Lending - a stable source of income in volatile markets
The most accessible activity in DeFi would have to be lending, which is a remarkable way to set yourself for a stable income in crypto, despite the usually highly volatile market conditions. The proposition of lending in either traditional or decentralized finance is that you can provide your funds to a bank or in this case protocol for a temporary period of time and later withdraw them together with an interest earned during the period.
However, the rates provided in DeFi are far higher than anything available in traditional finance at this moment. Historically, interest rates for lending in DeFi had reached as high as 15%+ APY in 2019, but have recently been somewhat lower at a stable 6-8% APY. You can see actual, current available rates (as of February 21st) for some of the most popular lending options below, in the screenshot taken from our Smart Savings lending dashboard.
The one tricky thing with lending in decentralized finance is that the highest interest rates are available for lending stablecoins (those that are pegged to a value of a fiat currency, almost always to that of a US dollar) such as DAI or USDC. This is something that puts Ethereum owners and crypto holders in general in an awkward position wondering if they should switch to lending stablecoins or if the market will move in such a way that simply holding their funds would result in a greater profit. The choice may be difficult to make, but it's nonetheless amazing that this is a choice that now exists.
If you would like to try your hands at DeFi lending, I suggest checking out our Smart Savings dashboard within DeFi Saver, that specializes in DAI lending and offers quick access to four well known lending options, including MakerDAO's Dai Savings Rate and Compound as the most popular protocols. In case you don't actually own any DAI yet, you can use the exchange widget on the left to buy it with ETH or any of the other supported tokens. Once you have obtained DAI, it's just a matter of supplying these funds to a protocol of your choice. For anyone who would like to learn more about the available lending options, I think DeFi Score is a good place to start, as it provides a clean overview of some of the most important points.
Once your DAI is supplied, you can sit back and watch your balance grow in real time, because the interest earned is being added to your balance continuously. Whenever you want to stop lending, you simply withdraw all funds and enjoy the earned bonus, simple as that.
Borrowing - a unique proposition with a twist
Borrowing in DeFi currently mostly exists in the form of collateralized debt positions. This means you can lay down a certain asset or a token as collateral and borrow a different one, with a mandatory minimum collateralization ratio that differs slightly from protocol to protocol. There are projects that are working on under-collateralized loans as well as NFT(non-fungible token)-based loans, but this is what we have available for now.
The most popular option for debt positions on Ethereum is by far MakerDAO, which was initially introduced in late 2017. However, it was recently upgraded in late 2019 to support multiple collateral options (currently that's ETH and BAT), where it was previously limited solely to ETH.
Using MakerDAO, you are able to lock in ETH and in return receive (generate) DAI (a stablecoin soft-pegged to the value of USD), as shown above. This is something you might want to do for a number of reasons, including wanting to offload some crypto into fiat without actually selling any of your ETH, or wanting to own DAI that you could spend in the Ethereum ecosystem within projects such as rTrees, PoolTogether or Gitcoin (though you could also obtain DAI by swapping other assets for it, as mentioned earlier) or (here's the twist!) you can use this DAI to further increase your exposure to ETH by buying more of it.
So besides actually borrowing funds for whatever use, MakerDAO can also be used to leverage ETH whenever you believe its market value will go up in price. This is made possible because the debt for your CDP (Collateralized Debt Position) is always denominated in DAI, meaning it doesn't change despite ETH price movements - no matter if ETH grows or drops in value your debt will still be the same because 1 DAI = 1 USD. Do note that there is an interest rate that needs to be paid for this debt, which is currently at 8% per year (it's not a permanently fixed rate as Maker Governance uses it as one of the levers to keep DAI pegged to the value of a dollar). If you would like to see how some CDPs are performing for their owners in this regard, you can stop by DeFi Explore and load any CDP, or just check out the 10 largest from the list - they have some amazing numbers to show off.
The one concern you should always keep in mind when using MakerDAO is the 150% minimum collateralization ratio. It means that the value of your collateral must at all times remain higher than 150% of your current DAI debt. If it drops below that, your CDP will be liquidated - the collateral within will be used to pay back your debt (with a +13% liquidation debt penalty added) after which you will be left with any remaining collateral.
This can obviously get very tricky, since value of ETH (or BAT) can fluctuate quite a lot, and there's also the mentioned Stability fee that is being added to your debt over time which additionally affects your CDP's ratio. But this is where the DeFi Saver MakerDAO dashboard steps in with advanced features for quick leveraging and deleveraging (unwinding) of CDPs: Boost and Repay. Boost lets you quickly increase leverage in your CDP and it instantly completes 3 steps for you in one single transaction - generates selected amount of DAI, uses this DAI to buy more ETH (or BAT) on decentralized exchanges and adds this ETH to your CDP (effectively increasing your ETH exposure). Repay, on the other hand goes the other way around and it also instantly applies 3 steps for you in one single transaction - takes out selected amount of ETH, sells this ETH for DAI using decentralized exchanges and uses the DAI to pay back part of your debt (effectively increasing your CDP ratio and making it safer against liquidation).
The ultimate tool for MakerDAO users, however, is our Automation feature, which is a trustless system for automated CDP ratio management. It uses the mentioned Boost and Repay options to re-balance your CDP using only the collateral contained within and based solely on your configuration (the CDP never leaves your ownership). The Automation system has grown very popular over the past few months and now manages (and protects from liquidation) more than $20m worth of users' collateral.
Has this got you interested in opening a MakerDAO CDP of your own? And just to highlight how popular it has grown, the protocol has over 1,6 Million ETH locked in it according to stats available in DeFi Explore.
If you do decide to enter the world of decentralized finance and would like to discuss anything or find out more, please feel free to join us in our discord server, where we have a growing crowd of DeFi enthusiast talking daily.