Hello to everyone out there, I would love to join Prof. @imagen to welcome each and everyone to the first week of this season. The topic for this week is Yield Farming - Yearn Finance and I'll try my best to give detailed answers to the test questions listed. If you reach the requirements, you could join me to do same my reading up the lesson on this link.
1.)
Describe the differences between Staking and Yield Farming
Introduction
The DeFi sefor is becoming a booming platform for investors in the cryptocurrency world, with its application of various money making projects where investors can provide their coins to liquidate the platform. Before we try to figure out what differentiates yield farming from staking, we would first need to understand the definition of the two terms.
Yield Farming
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Well, yield farming is basically a strategy of making investments in productive operations on the DeFi platform. Investors lend assets to the DeFi protocol, hereby providing liquidity to the platform. These operations may take a certain amount of time, months or years to yield good rewards to these investors. The same way a farmer invests his time and money in planting tuber crops which may take up to a year to yield for harvest.
DeFi has opened up various opportunities for investors to participate in Lending, Borrowing and Liquidity Pools. These investors provide cryptocurrencies for these DeFi operations and are later rewarded for it. These are all made possible through the use of smart contracts.
Liquidity Pools: Investors on decentralised exchanges lend a pair of coins (two coins like ETH/USDT) to the pools which are used to provide liquidity for various traders on the platform. A percentage of Transaction fees on trades made with their pairs of deposited coins are rewarded to them.
Lending: Platforms like AAVE, Compound etc support this operations. Investors make profits by providing cryptocurrency assets in lending platforms and are later paid back after a specified period with interest. These interest are sometimes high depending on the demand ratio. Which means, the more the demand there is to lend, the higher the interest rate. These lenders are also rewarded with the platforms native tokens for providing liquidity.
Borrowing: I know a lot of people may be wondering how it is even possible for people to make cash off borrowing but I'll try to explain how. Borrowers request for cryptocurrencies from the lending pools. Now the catch is, on platforms like compound, these borrowers are rewarded compound tokens for borrowing which are of more value than the interest rates they are asked to pay. The higher the interest rate the more compound tokens rewarded. Also, they have an opportunity of lending back the borrowed coins to make more cash.
So, we can clearly see that Yield farming is an investment strategy of providing cryptocurrency assets to DeFi projects to enforce liquidity and receive interest or native tokens as rewards.
Staking
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Staking on the other hand is a simple strategy of depositing a coin on a Proof of Stake(POS) network to receive rewards. This is just like the traditional fixed deposit account in our banks where people lock up their cash for a long period of time, the bank uses their cash to do some business and returns interests back to them after the period. The difference between the two is that the cryptocurrency network uses the staked coins to protect and secure the blockchain. The more coins staked, the higher the level of security on the network. I'll try to explain the POS.
Let's take example, Etherium 2.0, this is a proposed POS blockchain, where investors who can deposit up to 32 ETH can become a validator. ETH will have to be staked on the network for a long period of time and cannot be withdrawn at this period. Also, investors can still stake more than 32 ETH because the higher you stake the higher the rewards.
These validators help verify transactions, create new blocks on the blockchain and then receive new ETH as rewards. Validators are being selected with a certain mechanism meaning that 1 validator creates a block at a time and releases what they have created for other validators to confirm that it is appropriate. If it is wrong or malicious, they lose some staked coins and if it is correct, this is when they gain coins. Other users in the network can still delegate coins to these validators and earn rewards in return.
So, this is basically staking, although CEXs like Binance and coinbase make the process easier these days for its users. Users can stake smaller tokens for a shorter period of time to earn the same tokens as rewards while the CEXs platform will do the back end operations with the network.
Here comes what we've been all waiting for,
Difference between Yield Farming and Staking
| Yield Farming | Staking |
|---|---|
| You can deposit any other LP token to pools to receive the native token of the platform as rewards | In staking you must stake only the networks native token to receive the same tokens as rewards. Eg you stake ETH on the Ethereum platform to receive ETH |
| Yield Farming helps DeFi Projects provide Liquidity to other users on the platform | Staking helps increase the security on blockchain networks |
| Yield farming projects are still new and stand a chance of being hacked due to poor smart contract coding practices. They are at times risky and unsafe to invest in. | Blockchain networks are known for their safe nature. Remember, the higher the coins staked, the higher the level of security. |
| Investors in yield farming receive higher rewards of up to 40x multiplier as you can see in the picture I used to explain yield farming above. This is because it can be risky, so the have to look for a strategy to lure farmers into the project | Staking grants lower percentage APY of about 5% -20% on different networks. Remember, the nodes also receive new minted coins for each block the validate. |
2.)
Login to Yearn Finance. Fully explore the platform and indicate its functions. Describe the process for trading on the platform
To access the Yearn finance DeFi, you need to sign in to Yearn.finance. This product is prone to changes in design by the developers but for now I'll try to explain its feature on the Deskstop web page.
NOTE: All screenshots for this question will be taken from Yearn.finance
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Well, this is the home page, the first page to see on the Yearn DeFi platform. From the home page you can access a whole lot of operations. I have highlighted them in the image above.
Dashboard If you look at the screen, the first thing you would see is the dashboard, which contains information of our total net worth on the platform. This is simply the total amount of assets in dollars possessed by the user. There are also some information like vaults earnings- The total amount of assets in dollars earned by the user in the vault and Vaults estimated yearly yield- the estimated amount of assets in dollars that a users will acquire from his investment in a year.
Connect wallet: This feature is at the top right of the Home page and is the first area any new user is meant to go to before he can access the Yearn Finance tool. This is because, you need a decentralised wallet that has ETH coins and other tokens to perform any transaction on the DeFi project.
How to Connect to Wallet
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- On the left hand side of the connect Wallet icon, you'll see a drop down menu where you can choose between Fantom or Ethereum network. Choose one and click connect to wallet.
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- On the next pop up menu, you'll see a list of wallets accepted on the Yearn Finance website. You can pick any one but for this question, I'll be using the Metamask Extension. Click Metamask.
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- After logging into your metamask with the appropriate password, select the account you want to use and click on Next.
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- On the next page, click on Connect and you have successfully connect your metamask wallet to the Yearn Finance Platform.
On the home page, below you can see the
Government
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This page withholds all the information about the on-chain governance on the Yearn Finance Protocol. Users who have holdings of YFI on the network can make proposition and vote on the future of the platform. The more holdings of YFI a user has, the higher his or her voting power.
Doc
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This page withhold various documents which has information on how various components of the platform. You can see the documents in the screenshot above.
The others are Security icon and Disclaimer.
On the top left, you can see the
- Wallet
- Vaults
- Labs
- Iron Bank
- and the Settings
Wallets
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You can see your current amount of liquid assets. This is where your assets are safely stored before you can invest it in any of the pools.
Vaults
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On this page, you can deposit any amount of coins you have in other to yield more coins. The good thing about using this investment strategy is that you can withdraw your assets at anytime. Here are the features on the page
The first thing you'll see on the vaults page, is your dashboard, this is where you can see your current holdings in the vault, your earnings and the estimated amount to yield from your investments in the vault.
If you look below the dashboard, you can see coins that have the highest APY in which will be more favorable to stake in
Finally, the opportunities section where you can see all the tokens that can be farmed on the platform. Her you select a token that will be favorable for you and click deposit to input the amount you are willing to farm with.
Labs
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Labs is almost like the vaults but it has just three coins that can be deposited. It shares the same user interface with the vaults.
Iron Bank
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The iron bank is the lending and borrowing platform of the Yearn Finance Dapp, users can go in and supply tokens in other to liquidate the platform for the borrowers.
I highlighted the Dashboard in "black", where you can see the total amount of assets you have supplied in dollars, the amount borrowed, the percentage of borrowing limit you have used and your total borrowing limit in dollars.
Coins with the highest APY are highlighted in "ash". Which are the sUSD-72.74%, USDT-50.44% and the CRV- 15.95%.
In the opportunities section, you can see the lend APY, borrow APY and Market Liquidity for each coin. If you choose to lend, you can click on supply and if you need to borrow, you can click on borrow.
Settings
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Here you can make changes to the general look of the platform, you can changes themes, language and even the Slippage tolerance between 1%, 2% and 3%.
3.)
What is collateralization in Yield Farming? What is function?
In real life terms, collaterization is the deposit of assets like lands to acquire loans from companies. Assets placed are called collaterals. Normally, these collaterals are almost worth the same value or even higher than the value of the amount of cash borrowed.
Well, this is the same thing that applies in Yield farming, borrowers secure loans from the lending pools and deposit other crypto assets as collateral in other to meet up with the terms of the smart contract. This has to be done so that in cases where the borrower can not refund the assets borrowed, his collateral can be swapped to the borrowed assets and returned back to the lender.
It is the same case with banks, where before money is lent to a customer, this customer will have to provide an asset in buildings or jewellery which is worth the amount borrowed.
Now, a question like this may pop up to anyone,
Why would a crypto trader have a crypto currency worth what he wants to borrow and still go on to borrow?
This is simple to answer, there's always a time where we all are in need of something but we don't have liquid cash at the moment to buy it. Yes, we have our residence (this is the house we leave in) but we can't go ahead to sell it because it is more important to us. So, we go on to request for cash(loans) from our relatives or institutions and use our house as collateral.
This is the same thing with why borrowers use collateral in yield farming, the trader must have done his analysis on the future of the coin he wants to use as collateral and has realised that this coin will be more profitable and valuable in the future, so, it is better to use it as collateral at that moment.
For example, ETH was $200 last year but a trader who predicted the future of the coin can use the ETH coin as collateral to take a loan. In 2021, ETH is now around $4000 worth even more than the price he borrowed and that's a lot of profit. His ETH (collateral) will be returned to him completely while his pays back what he borrowed to the lending pool.
4.)
At the time of writing your assignment, what is the TVL of the DeFi ecosystem? What is the TVL of the Yearn Finance protocol? What is the Market Cap / TVL ratio of the YFI token?
TVL of the DEFI ecosystem
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Currently, according to DeFi Pulse the TVL of the DeFi ecosystem is $97.05B
TVL of the Yearn Finance protocol
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Currently, as we can see in the image above, according to DeFi Pulse the TVL in the Yearn Finance Protocol is $3.904B which ranks it 8th almost all DeFi projects.
What is the Market Cap / TVL ratio of the YFI token
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As we can see above, according to coinmarketcap, the Market cap/ TVL ratio of the YFI token is currently 0.1225. But from my observation of the image above, the TVL for Yearn Finance on coinmarket cap differs from the TVL on DeFI Pulse.
So it would like to calculate with the values of the TVL I got on DeFi Pulse,
Market Cap /TVL= $846,567,051/$3.904B
= 0.2168
4.1.)
The YFI token, is it overvalued or undervalued? State the reasons
From a theoritical point of view, the Token of a DeFi protocol is said to be undervalued if its TVL ratio is less than 1 and likewise said to be overvalued if its TVL ratio is greater than 1.
From our analysis above, the Market cap/ TVL ratio from coinmarket cap is 0.1225 and this value is less than 1. Also, the Market cap/ TVL ratio from DeFi Pulse is 0.2168. Both are less than 1 which means that the coin is undervalued.
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Being that this token, the YFI has an all time high of $93,435.53, with such a platform which has the capability of maximizing yields for investors, ranking 8th on the DeFi Pulse chart, I believe there may still be a possibility for it to be overvalued in future.
5.)
If on August 1, 2021, you had made an investment of 1000 USD in the purchase of assets: 500 USD in Bitcoin and the remaining 500 USD in the YFI token, what would be the return on your investment in the actuality? Explain the reasons
To realise my return on investment I would need to get all the previous prices on the 1st of Aug and also, acquire the prices today.
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According to BTC/USDT charts from trading view, as at the close of the 1st of August, the price for BTC was $39,841.07 and the current price is $47,281.99
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At the close of markets, Price of YFI as at 1st of August was $31,686.46 and the current price is $23,754.24
At the entry of the investment for BTC, amount of BTC purchased= 500/39,841.07
=0.01255 BTC
and Amount of YFI tokens purchased = 500/31,686.46
=0.01578 YFI
Currently, for BTC, the price is $47,281.99, that means the current value of BTC in my wallet will be = 0.01255*47,281.99
= $593.389.. meaning it yielded a profit of $93.389
For the YFI token, the current price is $23,754.24, that means the current value of YFI in my wallet will be = 0.01578*23,754.24
=$374.84.. meaning I made a loss of $125.158 for this investment.
Therefore, the total return on my investment will be ($593.389+$374.84)-$1000
= $968.229 - $1000
=$31.771
Meaning I made a loss of $31.771 or -3.1771% ROI
This loss had so much impact because of the dip that started on the 1st of December. From what I've seen, bitcoin would have been the best coin to invest in because it is the father of all coins and has a high percentage of audience who believes in its growth. Bitcoins growth affects all other coins. Just like what we saw 3 days ago, once bitcoin got into a downtrend, everyone in the market started pulling out their holdings of other alt coins which caused the whole crypto markets to fall.
6.)
In your personal opinion, what are the risks of Yield Farming?
Although an investor can gain high percentages of profit, there are a lot of risks when using these DeFi platforms
1.) Hacks: Most DeFi projects are new and not all of them can be trusted to be highly secure because developers can create rushed projects with poor smart contract coding. Hackers who realise these lose ends in the DeFi tool can take advantage of it. Nobody knows when a software is about to be hacked, so this hackers can crack the codes and drain all the coins in the liquidity pool in seconds. Since DeFi project aren't owned by anyone, the investors can risk losing all their money.
2.) Losing Out on Trades: An investor who deposits his coins in lending platforms will not be able to retrieve those coins until a specified period elapses. Due to the volatility of cryptocurrencies, there is a high possibility that the coins he deposited can go into a dip or downtrend and he won't be able to withdraw them on time to convert them into stable assets. Hereby losing a lot of money.
3.)Scams: Like I said, this DeFi platforms are still new and there could be a lot of scams out there. New projects can sprout up, tending to provide APY of up to 4000% and investor will then be lured in. After sometime time, this projects will be shut down by the developers and all the coins invested will be stolen.
4.) Impermanent loss: In liquidity pools, investors are meant to deposit an equivalent amount of pairs of cryptocurrency, meaning that if the price of BNB is $550 and he deposits 20 BNB for a BNB/USDT pair, he must deposit $11,000 USDT. If the real world price of BNB changes to $600 for 1 BNB and arbitrageurs make trades on their depositions and take advantage of the situation, the investor tends to lose some assets impermanently until the price goes back to $550 for 1 BNB.
If this investor, withdraws his funds before the price goes back to $550, the impermanent loss becomes a permanent loss but if the liquidity pools did not make trades with his deposition and he withdraws the cash before it got to $550, he won't lose his assets.
Conclusion
Yield farming is a high productive means of investments. Why would you decide to hodl coins in a dormant wallet, when you can invest them in reliable DeFi protocols like AAVE and Yearns Finance, which maximizes holdings of their users with high APYs of about 50- 70%?
They can be unsafe sometimes, that is why it is advisable to do proper analysis and research on the DeFi product before you heard in to lose all your assets. I'm so much grateful for this enticing lesson, thank you so much, Prof. @imagen
Dear Prof. @imagen, I had to edit the post today, because it was showing on the hashtag.
Thank you!
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