Decentralized Finance or DeFi, a relatively new phenomenon within the cryptocurrency and blockchain ecosystem has stirred excitement, controversy, and monetary behaviors reminiscent of the 2017 ICO craze.
So what is DeFi and how does it work? In short, it is a set of peer-to-peer financial networks running on specific blockchains. DeFi allows for numerous decentralized applications built upon blockchain networks to perform specific monetary functions like lending, borrowing, earn interest, trading cryptocurrency, and many other functions.
I would argue that the history of decentralized finance began with Bitcoin in 2009 when a decentralized monetary paradigm was conceived, nullifying the necessity of centralized financial institutions for facilitating global financial transactions. Since that year and more specifically, since 2017, many different DeFi projects have entered the cryptocurrency and blockchain sphere.
By way of example, in 2017, MakerDAO was launched as an Ethereum based protocol, allowing users to issue cryptocurrency that is pegged at a 1-to-1 value to the US dollar. Here the building blocks of a new and open financial system was born, one allowing individuals to borrow the Dai stablecoin against Ethereum. Through this new paradigm of cryptocurrency lending and collateral, anyone can take out a loan utilizing MakerDAO.
On the heels of MakerDAO’s inception, dozens of new DeFi protocols have been created. Scores of these decentralized applications are launching at a rapid rate, not only across the Ethereum blockchain, but other blockchain projects such as Tron, ICON, Chainlink, and Band.
Decentralized Finance is an extremely attractive monetary venture because many of these applications and projects, similarly to the staking of coins also offer very high-interest rates. But while these monetary opportunities can seem enticing to the novice investor, it is crucial to analyze the intricate components of these newly formed projects before jumping in.
Yield farming is an example of a promising Defi model where assets can be placed in a pool to generate annual percentage yield growth. In essence, it allows your cryptocurrencies to work for you in generating passive income.
Also known as liquidity mining, yield farming is similar to the concept of staking, where an individual locks up their tokens to secure part of a network and in return earns a percentage yield on their investment. Yield farming works with liquidity providers that add funds to specific liquidity pools leading to these rewards.
A Constellation of DeFi Monetary Ventures
Monetary ventures within DeFi that perpetuate high yield interest rates have seen a rapid spike in interest over the past 6-months.
According to Defi Pulse, the total value of DeFi markets (at the time of this writing) is nearly $15 billion USD, with Maker comprising 19.2 percent of the market share. Since September 2020, the amount of money that has entered the blockchain DeFi sphere has seen a meteoric rise ($9 billion to nearly $15 billion).
Although this trend line appears promising, it is incumbent upon those seeking to enter this space to do their due diligence in terms of differentiating a strong DeFi project with legitimate fundamentals from those that are just out for a money grab.
DeFi: A Bubble Or Innovation Flashpoint?
It is evident that DeFi has both innovative and monetary prospects that will propel the blockchain ecosystem to new heights. Simultaneously, within this paradigm of innovation, various bubbles exist which have been proven true by the immense drop in price valuation that we have seen in numerous projects.
While there is no need to doubt the validity of DeFi at this point, keep in mind that with human emotion comes human greed and avaristic intent. The good news is that many decentralized applications that support and emphasize DeFi are being created on a consistent basis. Some have come under communal scrutiny while others have flourished.
In the end, it is incumbent for all investors, both old and new, to weigh the high risk/reward potential of these new assets and decentralized applications that provide high interest rates. Making an informed decision is imperative before placing your money into one of these DeFi ventures.