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Things that You Need To Know About Yield Farming

Investments
Denis Goncharenko

DeFi or Decentralized Finance has been one of the hottest emerging areas ever in the crypto industry so far. The form of Defi operation is somehow the same as CeFi (Centralized Finance) but in the Defi environment, financial tools are used differently, under the control of the owners rather than any intermediaries or banks.

For Defi, various techniques and strategies are made to facilitate more opportunities to create both active and passive income. One of these is yield farming that takes the lead in crypto trends in drawing users’ attention. If you want to know what yield farming is, this article is for you.

What Is Defi?

So far, cryptocurrency is assumed as an ideal solution to the traditional financial system (or well known as Cefi) which has been suffering from various issues. Decentralized finance allows you to access tokens as the conventional banks or financial institute’s permission to your money under their management. Activities with the bank will be conducted the same (deposit. Withdraw, spend, borrow, lend, etc.). With a quick comparison, DeFi and Cefi share no big difference in terms of interaction.

Decentralized finance is not a single entity, but an ecosystem involving DApps, smart contracts, and protocols. These elements will differentiate conventional banks with decentralized space by providing their services under trustless codes. DeFi is conceptualized with the idea of operating without any middleman like a bank, which might lower the transaction fee, limit authorities to interfere with their funds, and access them regardless of physical location.

As an alternative solution competing with Centralized finance, DeFi is turning its light on the existing financial models by offering better rates of interest, protection of capital with more and more choices for investment patterns. Moreover, Yield trading and yield farming are promoted in DeFi to help other investors to conduct transactions such as cryptocurrency borrowing and lending with good rates. This surely will bring more benefits to them, compared to conventional banks.

To start with Defi, users will use applications on which DeFi works, or in other words “dapps”. These dapps provide an environment to enable borrowing and lending activities to happen.

What Is Yield Farming?

Yield farming is a process allowing users as cryptocurrency holders to earn fixed income or other income/ interest by lending crypto in the DeFi space through Ethereum network. It is the same when the bank holds your certain amount of money, every month the bank will give you a small amount of interest. It is the same concept as yield farming. You, as cryptocurrency owners, will lend your cryptocurrency by DeFi protocols and wait for a return.

How Does It Work?

Without funds as crypto, no transactions happen. The first step you have to do to become a yield farmer is to add funds to the backbone of decentralized exchanges or a liquidity pool. A liquidity pool is a place that collects funds in smart contracts. To facilitate activities of the market like token exchanging, borrowing or lending, etc, a pool is a must. As long as funds are added or deposited to one (or more than one) pool, that person will be a liquidity provider to earn rewards.

Fees you reward are created from the DeFi platform. It is important to know that investment within ETH environment shall not be counted as yield farming but lending out of it on market protocol, for example, Aave or others like Compound, will be. Tokens awarded then could be used as a deposit for liquidity pools. This is a popular way to harvest more and more yields by shifting funds among diversified financial protocols

This process is not easy at all, which requires a high level of understanding of the market, technical manners, and ETH network. The deeper a yield farmer knows DeFi platforms, the more than that person may have to earn profit.

Popular Protocols For Yield Farming:

Different DeFi platforms will be used by yield farmers to leverage the returns for their funds. Specifically, these platforms will provide users with incentives through activities of lending or borrowing, happening in liquidity pools. Some of the most common ones are

  • Compound
  • MakerDAO
  • Aave
  • Uniswap
  • Balancer
  • And others.

Pros And Cons Of Yield Farming

Pros

Apps availability: Up to now, it has become far more convenient for investors to track they are investing in apps. These are designed with interfaces that are friendly to users. Via these interfaces, available projects will be present, the investors can actively contribute their cryptocurrency

Simple start: To become a yield farmer, a person needs only two required elements which are respectively ethereum and crypto wallet. Yield farming’s entry is easy to access, which draws immense attention from people seeking return opportunities.

Cons

Short-term rewards: It cannot be denied that yield farming is growing strongly in a fast-paced market. It is not yet stable so there is a risk of inconsistent returns. More than that, due to its ease of entry-level, profitable strategies are hard to figure out.

High prices of Ethereum gas: Take it simple, gas is defined as the fee for each transaction performed within the ETH blockchain. Gas has been increasing up in recent times and this is a downside that yield farming cannot deny. Be conscious not to pay gas fees that are higher than the expected yield.

Benefits for those owning more: It is aware that, in yield farming, though a person can join DeFi space and earn some profit, the more you have a big amount of crypto, the bigger your chance is to have extra outcomes.

Final thoughts

Yield farming is among the optimal ways to earn an incentive in the DeFi environment. It is attracting more and more people to get involved to earn returns through Dfi protocols. Though yield farming still needs time to upgrade itself, this also means that it may be very beneficial to people by the opportunity generated along with its growth. Promisingly, the return rate is found much higher compared to conventional finance. It is noticeable that yield farming is not an easy cake, to enjoy achievement from it, experienced and detailed guidance are strongly recommended.


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