Hi all. If you're a bit interested in what's going on in crypto-universes you may have heard of DeFi.
Note: This article does not pretend to be exhaustive !!! Not everything is mentioned, and there are some very big shortcuts / simplifications. As always if the subject interests you, I advise you to search and find out from your side. I'll add some useful links at the end of the article. Also, feel free to add things in the comments. Some points will be detailed in future articles.
DeFi? What is that ?
DeFi or Decentralized Finance) is an ecosystem in which there is no control body. Simply put, nobody has your funds and everyone can participate. Whatever your location on the globe, whatever the size of your wallet ... Access for everyone without discrimination and where no one holds your funds. Some will surely have a different definition but it is for me the simplest and the most global.
To take an example, if you use an exchange like Binance, Kraken or others .. these exchanges are centralized and they hold your funds. If one day for X or Y reasons, they decide to leave everything, then you have a risk of not seeing your money again. This is also what happens in traditional finance. In DeFi, the person or platform with whom you interact never holds your funds. For this we use in smart contract. Simply put, a smart contract is a self-executing contract containing the terms of the agreement between the buyer and the seller. The code and the agreements it contains exist are stored on the blockchain. There is therefore no more intermediary.
This does not mean that there are no risks. They are, they are just different from those present in centralized finance
DeFi takes off
Since mid-April, the value of assets blocked in the Defi protocols has more than tripled, going from 500 million to more than $ 1.5 billion !! We can therefore easily understand the particular enthusiasm for DeFi that has existed for some time.
The DeFi ecosystem is made up of several blocks that can overlap one another. We are going to discover some of them and have a non-exhaustive view of what DeFI can offer.
DEX: Decentralized Exchanges
There are several types of DEX (decentralized exchanges). There are trading platforms that resemble the exchanges that we know in the centralized ecosystem (Binance, Kraken, etc.). For example, Loopring and dY / dX
There are also decentralized exchange services that provide liquidity. In these exchanges, LPs (Liquidity providers), liquidity providers, will put funds in liquidity pools. Then people wanting to exchange their tokens, will use these pools. Take the example of Uniswap. To be LP on Uniswap you must provide ETH and another token in a 1/1 proportion. If you want to provide liquidity in the ETH / DAI pool, you will therefore have to give 1 ETH and 220 DAI (depending on the current price). These tokens will go into the pool.
Another user will want to exchange ETH for DAI, for example. For this he will therefore use Uniswap and the ETH / DAI pool. It will give 1 ETH and recover 220 DAI. On your side, as LP of this pool, you will earn interest from the fees that the user will have paid to make this swap.
But beware, you will understand. If everyone trades their ETH for DAI using the same pool, then there will come a time when there will be far more ETH than DAI. And when you want to withdraw from this pool to recover your stake, then you will not recover your 1 ETH and 220 DAI from the start. But can be 2 ETH and 50 DAI. So be careful because you are exposed to market volatility. Generally speaking, you risk losing more than you will win with this kind of pool. But it all depends on your vision on the evolution of the tokens that you want to supply and at what price you got them. So don’t go headlong into liquidity pools thinking you are making money from swap fees. This is not necessarily the case !!!
With the number of protocols constantly increasing, it is sometimes difficult to know which one to use to benefit from the best possible swap. For this there are liquidity aggregators which aggregate several DEX in order to find the best possible path for your swap in order to find the best rate. A single transaction can for example be divided into several transactions on several exchanges to optimize the transaction. Some also use tools to reduce gas costs and to further reduce transaction costs. To name a few: Paraswap, Matcha, 1inch…
An example below. Here Paraswap will use Uniswap at 2%, Kyber at 54%, Paraswap Pool at 30% and finally Uniswap V2 at 2% to convert your ETH to DAI and get as much DAI as possible.
Lending protocol. Lend and / or borrow
There are also protocols that allow you to borrow assets. For this, some people will lend assets in exchange for interest, while other people will be able to borrow them by paying interest. The best known are certainly Compound and Aave. So these are decentralized loan services where anyone can borrow. It's actually a little more complicated than that, because to be able to borrow you have to "collateralize" a quantity of tokens proportional to the amount you want to borrow. To sum up if you have few cryptos you can't borrow a lot! This prevents abuse and defaults.
Interfaces to access the Defi and manage your wallets
As previously mentioned, the number of protocols is constantly increasing and it is sometimes difficult to navigate. Fortunately, tools are also developing and there are interfaces that allow you to manage your wallet and easily connect it to the various DeFi players. There are in particular Zerion and Zapper, which are very complementary because they do not offer the same functions. And you can use both in parallel with the same wallet.
I will surely do a full article on Zapper, but to give you a concrete example, it allows you to join pools of liquidity in 1 click. If you have for example USDC and you want to become LP on a Uniswap DAI / ETH pool, Zapper will allow you in 1 click to change half of your USDC into DAi, the other half into ETH and join the pool Uniswap. It would have taken several minutes to do if you had to do each step separately and you might have had to use different protocols. In this case everything is done automatically! it’s a huge time saver, potentially transaction costs but also convenience.
The recent explosion
The recent explosion in the quantity (value in $) of assets blocked in the DeFi protocols is partly explained by the circulation by certain protocols of their governance token. This is particularly the case for COMP from Compound and Bal de Balancer. The primary utility of these tokens is to allow their owners to participate in the governance of the protocol by voting for important decisions or by allowing changes to be proposed. This is an effect the main idea of the DeFI. One person or a small team should not be able to make all the decisions. Compound, for example, transfers its COMP tokens to people providing liquidity and also to people borrowing this liquidity.
These tokens, not being stablecoins, are subject to speculation and market volatility. The protocols concerned have therefore seen the appearance of new investors wishing to obtain these tokens. The COMP, for example, went from $ 126 to $ 358 in the space of 3 days. More and more protocols issue, or will issue, their governance token.
A new term has therefore recently appeared and has become very fashionable: Yield Farming (Literally ... Yield farming). This is a metaphor for conventional farming and farmers, who measure yield as the total amount of a crop that is grown. DeFi players therefore measure yield as the amount of interest that grows above the underlying assets like Dai, USDC and USDT when used in DeFi platforms like Compound for example.
There are also wallets which are attached to VISA type payment cards to allow you, for example, to spend the interest generated by the use of the different protocols and thus be used in "real" life.
Monolith (article here) and Eidoo notably offer this type of service. Here again, these platforms do not hold your funds!