What is Leveraged Yield Farming?
You clicked on this article to figure out what is leveraged yield farming. — Before we dive into it, you need to understand yield farming. Yield farming is the process where you try to maximize the return of capital by leveraging various DeFi protocols. That revolves around strategies such as swapping tokens for higher generating yield or moving funds around between different protocols.
The rise of blockchain technology has given birth to concepts such as decentralized finance (DeFi). DeFi users are no strangers to chasing the highest returns on their investments. Leveraged yield farming comes to mind for experienced DeFi users when seeking the highest yield (rates of return) rate.
Leveraged yield farming allows users access to higher capital with minimal capital to ramp up their yield farming position by borrowing funds, thus multiplying their yields and generating more returns with their initial funds with leverage. When borrowers borrow funds, it comes with a small price (borrowing interest) that gets repaid for the extra funds borrowed.
In leveraged yield farming, there is an undercollateralized lending model, which is unheard of in traditional lending platforms. The model exhibits higher capital efficiency for yield farmers and lenders by allowing users to borrow undercollateralized loans. Hence, it creates a higher utilization rate of the lending pool, at times reaching over 90% utilization rate!
The higher the utilization rate of the lending pool, the more the lender gains. The borrowing interest paid to lenders would be higher at a utilization rate of 80% than 10%. If the interest rate is too high, lenders are more likely to be at risk of price fluctuations, therefore, maintaining the balance between risks and rewards needed for a reliable lending pool.
Factors that determine yield rates:
- Leverage
- Liquidity mining/pool
- Risk
Methods used in yield farming:
- Staking liquidity
- Lending and borrowing
- Supplying liquidity pool tokens
Risks involved:
- Dramatic price fluctuations
- Protocol hacks or rug pull
- Smart contract vulnerabilities
- Collateral liquidation
Ready to kick start your leveraged yield farming journey? Read the article here to learn some strategies to get you started!
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