Yield Farming: Make Crypto With Crypto
Yield farming is an amazing investment opportunity, which involves staking and lending crypto assets. It was one of the hottest topics in 2020 and with Total Value Locked (TVL) in Defi, liquidity pools have increased by 2021. Let's see what Yield farming is? and how it works.
What is Yield Farming
Yield farming is a practice to stake and lend cryptocurrency assets to generate high returns as well as rewards in the form of different cryptocurrencies. It is one of the innovative and volatile applications of Defi. However, it had led the Defi sector to boom from a market cap of $500 million to $10 billion in 2020.
In other words, Yield farming incentivizes liquidity providers to stake and lock their crypto assets for a certain period of time in smart contract-based liquidity pools. These incentives can be a percentage of transaction fees, interest from the lenders, or governance tokens. Thus these returns are known as Anual Percentage Yield (APY).
How Does it Work?
The initial step in the yield framing involves adding your funds to a liquidity pool, which are smart contracts that contain funds. These pools power marketplaces where users, lend and swap tokens. Once you add your money to these liquidity pools you become an investor an LP (Liquidity Provider).
Yield farming uses the AMM (Automated Marketing Maker) model. Once your fund gets locked up and you will be rewarded with fees for the underlying DeFi platform. Although, investing in ETH is not yield farming, whereas, lending ETH on a decentralized non-custodial money-making protocol like AAVE is called yield farming.
Rewards earned by liquidity providers can be deposited again into the liquidity pools and it has become a common practice because users shift their funds between different protocols to generate high yields. Yield farming provides more lucrative interest than a traditional bank but is not a form of any easy money, it is highly volatile, and yield farmers are experienced with the technicalities to move funds among different protocols for gaining the best results.
What are APY and APR
In yield farming, APR (Anual Percentage Rate) & APY (Anual Percentage Yield) are the calculations done to show users how much interest they will earn.
APY refers to the amount a user will earn over the course of the year if its interest earnings are reinvested continuously in the yield farm along the way
APR refers to the amount that a depositor will earn on their crypto over the course of a year. If a yield farm consistently offers 5% APR and you supply $100 to it, after one year you’ll have $105.
Pros
1 Great way of earning passive income
2 Decentralized & Secure
3 Give users to participate in Defi protocols
Cons
1 Can be vulnerable to economic attacks or software exploits.
2 Highly volatile
3 Users are not able to withdraw their funds for weeks or months.
Some Amazing Yield Farming Protocols
Some most famous Defi protocols which yield farmers use are:
1 Compound Finance: Compound is one of the core protocols of the yield farming ecosystem. It is an algorithmic money market that allows users to lend and borrow assets. Anyone with an Ethereum wallet can supply assets to the compound’s liquidity pool and earn rewards.
2 Uniswap: Uniswap is a DEX (Decentralized Exchange) it is best known for trustless token swaps. . Liquidity providers deposit an equivalent value of two tokens to create a market. Traders can then trade against that liquidity pool. In return for supplying liquidity, liquidity providers earn fees from trades that happen in their pool.
3 Aave: As a decentralized lending and borrowing protocol, Aave is heavily used by yield farmers. In Aave, interest rates are adjusted algorithmically, based on current market conditions. Lenders get “aTokens” in return for their funds. These tokens immediately start earning and compounding interest upon deposition.
4 MakerDAO: Maker is a decentralized credit platform that supports the creation of DAI, a stable coin pegged algorithmically to the value of USD. Anyone can open a Maker vault and lock their assets ETH, BAT, USDC, or WBTC.
Conclusion
To conclude, yield farming is a practice done by yield farmers in which you stake your assets and become an LP (Liquidity Provider) and start earning interests in form of different cryptocurrencies. It is decentralized, secure, and amazing at generating passive income but on the other side, it is highly volatile. Thus some of the amazing yield farming protocols are Uniswap, Yearn Finance, Aave, etc.
