YIELD Farming is one of the top trends in Peer-to-Peer Finance, better referred to as Decentralized Finance (DeFi), and this is not about owning a physical piece of farmland. However, the idea is very similar to a farm merchant renting out their farms to earn profits.
DeFi protocols reward people for locking their crypto assets on their platform. DeFi protocols run on the blockchain using smart contracts. Effectively understanding DeFi protocols and how they work requires the knowledge of decentralized finance.
Decentralized Finance is a blockchain-powered transition from traditional centralized financial systems to peer-to-peer. The DeFi ecosystem experienced exponential growth in 2020 when yield farming started, and it grew to more than $10 billion in value.
People who engage in yield farming are called Yield Farmers. They swap their assets across different DeFi protocols generating more yields in a way called Crop Rotation while looking for the highest Annualized Percentage Yield.
Unlike fiat in a saving account that does not provide up to 3% return, yield farmers can make up to 100% APY, but it comes with very high risk due to intense volatility and rug pulls (more about these later in the article).
How does Yield Farming Work?
Yield farming allows you to deposit your assets like bitcoin, Ethereum, and others for a period of time to earn a reward. It is managed by smart contracts and requires no intermediaries or mediators. Yield Farmers use different strategies to maximize profit.
To get started farming yields with your crypto assets, follow these steps:
Choose a DeFi protocol — you can choose from Aave, Compound, or Venus. These are the biggest platforms to earn yields on your assets, and they support several crypto assets like bitcoin, Ethereum, and USD stablecoins like USDC
2. Set up a Metamask wallet: Metamask is the most popular DeFi wallet which allows you to access DeFi platforms. You can visit metamask.io to download and set up a Metamask wallet.
3. Transfer your crypto assets to Metamask: If you don’t have crypto assets yet, head to the crypto exchange to buy some. You could start with bitcoin. Do a withdrawal from the crypto exchange to your metamask wallet.
4. Connect your Metamask wallet to the DeFi protocol: To start earning yields on your crypto assets, you’ll have to connect your wallet, in this case, Metamask, to the DeFi platform. You’ll then be able to add your assets to the platform to start earning yields.
Yield Farming Strategies
Lending: Farmers stake their assets in a lending protocol, and a borrower uses it to speculate on projects.
Borrowing: Farmers borrow coins to trade and use their assets as collateral. In this case, they do not miss out if their initial holding increases in value and earns yield from their borrowed coins.
Supplying Capital: Farmers use their assets as liquidity on a liquidity pool on protocols like Uniswap and get part of the transaction fees when people buy and sell.
Yield Farming Protocols
There are a lot of DeFi protocols for yield farming, and we will look at a few of them.
Aave: This liquidity protocol allows farmers to lend and borrow crypto and earn AAVE tokens as rewards. It is open source and one of the most popular protocols.
Uniswap: This decentralized exchange rewards liquidity providers with some of their transaction fees and UNI governance token, but they must stake on both sides of the pool.
Compound: Another Open Source protocol uses algorithms to determine the rewards farmers earn from staked coins, and they are rewarded in COMP tokens.
PancakeSwap: This is the most popular yield farming protocol, and farmers get liquidity pool tokens that are convertible to CAKE. On PancakeSwap, you can either swap your tokens or provide liquidity to earn rewards.
Venus: This platform allows farmers to earn rewards for staking their stablecoins, Ethereum, and Bitcoins. It also offers borrowing and lending and is one of the top pools on the Binance Smart Chain.
Profitability
Yield Farming is considered one of the most profitable crypto ventures. There are pools with double and triple APY but also high loss expectations. Traders going to yield farming require high-risk management, and an understanding of when to exit or switch strategies.
The risks of yield farming
Yield Farming is complex, and it is essential to be aware of the risk before getting involved.
Rug Pull: These are the type of scams where a developer abandons a project and makes away with funds from investors, and this is a widespread scam in cryptocurrencies today.
Fraud: Without proper research, you may put your coins into schemes that promise high returns and lose all of them.
Smart Contract Risk: Since smart contracts manage transactions, in some cases, they can have bugs and be open to attacks and allow hackers access to your assets.
Regulatory Risk: Centralized governments are still trying to get involved in cryptocurrencies and regulate certain aspects. The US Securities and Exchange Commission (SEC) considers some digital assets to be securities and should fall under their regulation.
High Volatility: Constant price fluctuation over a short while could cause your token to crash
Volatility: Volatility is the degree to which an investment’s price fluctuates. A volatile investment experiences a lot of price movement in a short period. For example, the cost of your tokens could crash or surge while they are locked up.
Impermanent Loss: While your assets remain locked, the value potentially increases or reduces, and it becomes permanent when you withdraw them. Sometimes, the losses are usually very high depending on if the market is currently bearish.
Gas Fee Risk: Protocols for Yield Farming are mostly built on the Ethereum blockchain, which has a high gas fee.
Conclusion
Yield Farming has the potential to generate a lot of money for experienced people. When you’re just entering the crypto space, it’s best to start with the less risky alternatives like crypto savings and earning returns on your crypto assets that are better than what you’ll get leaving money in a bank account. Join the Mara academy to continue to learn more about cryptocurrencies and DeFi.
