Crypto Academy / Season 3 / Week 4 - Homework Post for Professor @stream4u
This is Season 3 Week 4 of Steemit Crypto Academy and I'm writing Homework Task for Professor @stream4u
What Is the Importance Of the DeFi System?
Defi is an abbreviation of Decentralized finance. Let’s break it into two parts
Decentralized literally means something that is without a center. In simple words it refers to a system that is not controlled by a single authority rather it is run by several individuals or several groups or the ownership is divided into several units.
Decentralized Finance or Defi is a financial system in which that eradicates the need of any third party or intermediaries to enjoy financial services such as the transfer of money, trading and exchanging a currency or use of wallets and exchanges.
The importance of decentralized Finance:
The following advantages advocate the importance of Decentralized finance:
It is accessible to all
The most advantageous feature of decentralized Finance is that it has made financial services more accessible. Now anyone with an internet connection and smart phone can transfer funds, exchange currencies, enjoy dApps, clear payments, shop online using decentralized financing services.
It has reduced the cost of cross-border transfers
Where banks charge you heft transaction fees for transferring funds internationally, decentralized finance have brought little percentage or in some cases no fees at all. In addition to that the time required to send and receive funds internationally has also been reduced.
It has improved security and privacy
In centralized finance you don’t know what is happening with your asset off record. With decentralized finance you are in full control of your assets. By using decentralized wallets, only you have the access to your coins. In addition to that the transaction history and other data is available on public ledgers so everything is transparent.
It is simple and easy to use
Various decentralized exchange platforms do not even ask for authorizations and verifications and thus working with them is very easy and simple.
It eradicates the need for human assistants for various major jobs. Decentralized platforms using various tools for protecting and storing data in a safe way.
Flaws in Centralized Finance.
The flaws in centralized finance led the world to the creation of Decentralized Finance. Following are the flaws in centralized system:
The biggest drawback of centralized finance lies in its transparency. In centralized Finance the user has no idea as to what is going on with his money, what developmental projects the money is being used in, what type of businesses are using or what transactions are happening on it.
Centralized Finance has failed to address the issue of unbanked populations. Due to this all those areas who have no access to banks or third parties are devoid of financial services.
Centralized Finance has limited trading and investing opportunities, on the other hand Defi provides users with a plethora of earning ways both active and passive.
In centralized Finance the assets are not in only the user's control, the central authorities can use it in any way they want or have all the personal data of the individuals.
In addition to that, users have to cover long processes of verifications and authorizations to open a bank account. It is time taking. There are limits on the amount you can send daily or in a given time. All the transactions have to be accepted by central authorities to proceed.
Cross border transactions in centralized finance i.e., through banks costs a lot in terms of transaction fees and also takes a lot of time.
DeFi Products. (Explain any 2 Products in detail).
Defi has launched a variety of services for their users. These services are termed as the Defi products. Two most important of them are
A decentralized wallet is a platform used to store, hold and swap cryptocurrency. A decentralized wallet allows its users to connect to various dapps. A decentralized wallet is a non-custodial private space of an individual. The user also can access it through a private key or phrase.
In decentralized wallets the user has full control over its coins and no authority has any hold over it. These wallets allow you to send and receive assets anywhere in the world. It is based on the blockchain technology like many other defi services. The most prominent examples of defi wallets are Trust wallet, Metamask wallet etc.
Trustwallet is a renowned decentralized crypto wallet. It allows swapping, exchanging, buying, selling and staking of many coins. It is a web3 wallet so you can use Dapps over it. The transaction cost is comparatively low and a large number of traders use it.it is available as a mobile application.
Metamask is available as a web browser extension. It is one of the most widely used decentralized services and stands among the most trusted wallets. The wallet will soon be available on mobile also creating ease for the users. Metamask allows their users to speed up their transactions even at times of congestion. Overall, it is a trusted and very user-friendly platform.
Decentralized apps (dApps)
Decentralized apps like other mobile apps are computer applications but they run on blockchain networks. In centralized apps although these apps are working on many computers but the control is in the hands of centralized authority. With decentralized apps many users can add new content or approve new content.
The idea behind dapps is that they are open-source platforms where users can exercise authority rather than a single authority. They are available on public blockchain networks. They can also be auto programmed through smart contracts.
If we say that someone creates an app like Facebook and places it in a decentralized blockchain than anyone can post anything and even the creators will not be able to remove it.
Example of Dapps
- Popcorn Time
Risk involved in DeFi.
Where Defi is very productive and beneficial there are certain risks that are always at the bay by using Defi. These include:
More dependence on technology is often risky
Programming codes or smart contracts that carry out functions on blockchain platforms can have any unrecognizable faults due programming or coding errors and can turn a whole transaction into a dump. As we know in Defi assets in decentralized finance are non-retrievable.
With freedom comes responsibility
The private keys to your wallets cannot be reset so if you lost your key phrase or private key there is no way you can access your money. Therefore, giving users the full authority to handle their keys on their own is often very risky.
The sudden rise and falling prices
Various decentralized exchanges suffer instability and break down amidst sharp rise and fall in prices. Such as recently happened with many exchanges as the market broke down.
The instability of value
The value of a coin is governed by the liquidity pools and the burning of the coins. The instability of value directly affects the price trends and movements.
If you lost, you lost
As discussed earlier there is no way you can get your money back if you lost even in scams and thefts.
What is Yield Farming?
The term yield farming has two words the word yield denotes for output or profit whereas farming means cultivating or growing or adding. Yield farming emerged as a concept derived from decentralized Finance and is therefore based on it.
Yield farming is a way of earning passive income. In this, users stake their coins in desirable liquidity pools to earn yearly profits. In the meantime, they contribute to the liquidity of a coin or an exchange.
The users earn reward on the investment or staking in the form of tokens the number of rewards increases as the time of investment increases.
Yield farming is a great strategy that experienced investors use to earn annual profits of about 30 to 40%. The number of rewards also depends on the number of coins stacked. The rewards are calculated on the basis of APY and APR and differ for differ yield farms or pools.
How does Yield Farming Work?
Yield farming works in a way that when investors invest in the coin, they earn rewards based on the amount of their holdings. This encourages them to hold as many coins as possible to earn a large number of rewards. Yield farmers deploy different strategies to gain maximum profits. For this an individual searches for platforms that collect coins and lend them to other users. The other users pay interest on the coins lend.
The platform then pays the individual the rewards and the interest on the basis of the amount farmed. The rewards are in the form of native tokens.
The borrower pays double the amount as a collateral on the loan. So that the lender is never at loss even in the case the borrower does not return payment.
Currently the yield farming is done on the Ethereum network. The money bound can any time be seen through smart contracts.
The yield farmers deploy different strategies in order to increase their yield or annual profit. The steps as explained earlier include
- supplying capital to liquidity pools
- staking LP tokens
When users stake tokens, they are rewarded with the percentage of fees on every transaction. In lending and borrowing the above-mentioned strategy is used where users earn rewards and interests. Yield farming is a great way of mass adoption of blockchain and attracting more people towards decentralized finance.
What Are the best Yield Farming Platforms and why they are best. (Explain any 2 in detail)
In my opinion pancakeswap and Uniswap are some of the best yield farming platforms.
Pancakeswap is a decentralized exchange based on Binance smart chain and allows the exchange of BEP-20 tokens.
Some major features of the pancakeswap are:
- It is the first billion dollar project on Binance Smart chain
- It holds the highest amount locked in pools than any other BSC yield farming platform. It holds about 7 billion$.
- If we look at the features pancakeswap allow their users to stake, earn through lotteries yield farming, predicting prices, and even through Non-fungible tokens.
- It has a current 24-hr trading volume of $400M
- Users can deposit their assets in farms and allow others users to borrow them and in return they earn rewards and interests.
- In addition to that, users can also stake coins into the liquidity pools and earn a percentage on every transaction that takes place on the network.
- The pancakewsap has risen a lot in its value at the time the native token was only worth $0.48 at inception which is currently trading at $13.
- It allows yield farming on more than 10 cryptocurrency pairs.
- On the platform you get information in the form of APR, liquidity of a farming pair so that you can assess the benefit from farming a coin
The next platform I will be talking about is Uniswap
Uniswap works on the Ethereum Network. It is a decentralized exchange that is used for lending, staking, and swapping tokens on the Ethereum Network. In order for its users to have a stable working experience Uniswap has worked on its liquidity mechanisms and so the algorithm is so designed that users do not have to face instability while working the native currency.
Some prominent features of the platform are listed here:
- It is the second largest decentralized exchange
- It works on the Ethereum blockchain
- It uses smart contracts
- To ensure stable working Uniswap uses algorithmic equations to balance liquidity
- The total holdings the platform has is near about 5.5 billion dollars
- The platform uses ERC-20 tokens in the place of BEP-20 token as were used in binance based platforms such as pancakeswap
- liquidity providers can earn profit in the form of a percentage of the transaction fees the rate is set to 0.3% of the amount they are contributing. Thus the more you contribute the more you get.
- Through yield farming holding a large principal amount they can earn large interets
- The interest rates and rewards differ for each currency pair
- It is best suited for complex and advanced defi functioning
The Calculation method in Yield Farming Returns.
The calculation method used in yield farming is based on two metrics.
The return on yield farming is usually calculated for longer periods because it is difficult to calculate the return of the yield farming over any short period. The two mathematical expressions in common practice for calculating the yield are:
- Annual Percentage Rate(APR)
- Annual Percentage Yield(APY)
First of all we see how can we calculate Annual Percentage Rate(APR)
Annual Percentage Rate (APR):
In APR we calculate the profit in numbers or is the rate that is paid to investors and is taken from the borrower. This is to service the fee that the borrower has to and the investor on the other hand earns it as a reward. To calculate APR, we multiply the periodic interest rate with the number of periods within a year. It is to be noted that we do not calculate compound interest when calculating APR.
Formula: APR = PI x NP
Let us take an example
If an investor invests $100 with an APR 40% for a year. At the end of the year, the investor will get $140, where the initial deposit was $100 and the $40 is the reward, this is gained at the rate of about 0.111 per day.
Annual Percentage Yield (APY):
The Annual Percentage yield is the real interest. It is the return that is paid to the capital provider and not the investors. The borrowers also have to pay this amount. It is to be noted that in APY the compound interest is taken into consideration to increase investor gains.
Formula: (1+r/n) n-1
Let us take an example
An investor invested $100 with an APR of 40%
Then by using the above formula the APY =$162.3, when $100 was the initial capital and $62.3 is the annual percentage yield.
Difference Between Both
The major difference between APR and APY is that, we do not consider compound interest while calculating APR but we consider compound interest when we calculate APY.
Advantages & Disadvantages Of Yield Farming.
We have already discussed yield farming in detail and here we will discuss its advantages and disadvantages.
Advantages of yield farming
- Yield farming is a way of decentralized loans and guarantees more profits than traditional loans. It is also less risky and there are greater chances of getting your money back in case the borrower does not pay. In some long-term holdings users also earn APY up to 100%.
- What you have to do is find a platform that has farming pools and invest coins and rest, in short you don’t have to be an economics expert to earn rewards. Platforms such as pancakeswap and uniswap are well known and tested.
- You can earn rewards over the interests you get on your holdings
- The percentage yield calculated taking in notice the compound interest are more profitable
- You can reinvest the amount you earn in the form of rewards to maximize gains
Disadvantages of yield farming
- It is very difficult to calculate short term, gains from yield farming due to factors like price volatility and instability of the market
- Farmers can suffer from impermanent loss which happens when the price of an asset decreases appreciably. These losses however can be prevented through stable coins.
- Crypto market is very volatile and thus the assets set as collaterals are in danger of facing the effects of liquidation
- The high transaction fees on Ethereum can also cause hurdles in yield farming by slowing it down
- Hacking of the platform can also pose a threat to your holdings
Conclusion on DeFi & Yield Farming.
Decentralized finance has changed the way we look at financial services these days. There is no doubt that it has its demerits but the advantages often cover those shortcomings. It has made financial services more accessible and portable. Decentralize finance powers Decentralized exchanges, Dapps and much more products to bring ease to the users.
Yield farming on the whole is a very beneficial passive income source. All those who fear the fluctuating market and face difficulties in understanding day trading can resort to yield farming. Yield farming stabilizes the market and currencies such as the Safemoon encourage their users to stake and farm coins rather than trading. It is important to conduct fundamental analysis before staking and farming in any coin in order to avoid any risks.