DeFi Lending Protocols make cryptocurrency investing even more appealing, as DeFi loans are one of the fastest-growing sectors in the blockchain and cryptocurrency ecosystem.
When you invest in cryptocurrency, you have the opportunity to earn a competitive interest rate on your digital tokens. DeFi Lending Protocols, like traditional banks, provide all of the same products but in a decentralized manner.
This is accomplished by putting your tokens into a DeFi lending platform. Before selecting a provider, you must consider important factors such as APYs, lock-up terms, security, and fees.
Let’s find out!
What is DeFi Lending?
DeFi Lending is a new and improved decentralized form of lending on the Blockchain. This form of lending is carried out in some of the top DeFi Lending Protocols like Compound, Aave, and Maker amongst others.
For more top DeFi protocols you can check out this great article on What are DeFi Lending Platforms
These protocols create a marketplace for both lenders and borrowers. Lenders deposit tokens they’d like to lend out in a pool and borrowers deposit collateral to obtain these loans from the protocols pool.
Why DeFi Lending?
While decentralized finance redefined finance, decentralized lending provided lenders with a variety of lending opportunities and benefits. As a result, DeFi lending has the following benefits:
Earn interest in holding your crypto
In general, the cryptocurrency market is volatile, frequently driving investors away. As a result, if the investor does not want to be burned by the market’s frustrating price swings, the investor or holder sells off during a bull run; however, DeFi lending provides an opportunity for investors who want to hold Crypto for a set period of time to deposit their cryptos in DeFi lending pools and earn interest on the crypto.
Defi lending allows for open, permissionless access, which means that anyone with a crypto wallet can access Defi applications built on Blockchain, regardless of location or minimum amount of funds required.
Every transaction on the network is broadcasted by the public Blockchain and is verified by every user on the network. This level of transparency around transactions enables rich data analysis and ensures that every user on the network has verified access.
The most significant advantage of digitally enabled lending processes is their quick processing speed. Cloud-based services, analytics for fraud identification and detection, and machine learning calculations for optimal loan terms and risk factors are all supported by Defi lending platforms. All of these technologies will eventually help to accelerate the process.
How DeFi Lending Works?
DeFi lending is very similar to traditional lending services provided by banks, except that it is provided by P2P DeFi Lending apps. The DeFi lending protocols assist people in borrowing and lending funds, allowing crypto holders to earn a substantial income.
The DeFi lending process is straightforward. It focuses on providing crypto loans in a trustless manner. This means that if a borrower wants to get a loan, they must offer something more valuable than the loan amount.
Furthermore, the DeFi lending protocol enables lenders to earn interest on crypto assets. In contrast to the traditional loan processing system of banks, DeFi lending allows individuals to become lenders in the same way that banks do.
A person can easily lend their assets to others and earn interest on the loan. DeFi lending, like traditional bank loan offices, is primarily based on lending pools, where users can add their assets to the lending pool and ensure quick distribution among borrowers via smart contracts.
With various mechanisms for allocating interest to investors, lenders must identify the type of interest. Borrowers also need to do their part of the research on the lending pools as each pool has a different borrowing approach.
For example, if you wanted to borrow one bitcoin, you would need to deposit the current price of one bitcoin in DAI, which is 17,500 DAI. After a few months, you finish the loan and must repay your bitcoin plus 15% before receiving your 17,500 DAI back.
The borrower is pleased because they were able to keep their original DAI without having to sell them, and the pool is pleased because they can now distribute the 15% in bitcoin to the pool of investors.
DeFi Lending Platforms
DeFi lending platforms are peer-to-peer decentralized platforms/protocols that enable users to lend and borrow assets. DeFi lending protocols provide loans to businesses or the general public without the use of intermediaries.
To find out some of the top DeFi lending platforms you can check out this great article on What are DeFi Lending Platforms.
They create a marketplace for lenders and borrowers and enable lenders to earn interest in cryptocurrency. Here are some examples of the best DeFi lending platforms 2022:
- Maker DAO
- Kava amongst others.
DeFi Lending vs Traditional Lending
Traditionally, the process of bringing borrowers and lenders together was facilitated by financial institutions such as banks or peer-to-peer lenders, who controlled access along with borrowing and lending rates.
In comparison to traditional finance, DeFi borrowing and lending offer innovations in efficiency, access, and transparency. DeFi allows any user to become a borrower or lender without requiring them to provide personal information, provide identification, or go through KYC (know your customer) procedures.
You can check out this great article on KYC and Cryptocurrency Exchanges.
Additionally, lenders and borrowers do not have to give up custody of their money. This is done through smart contracts on open-source blockchains, predominantly Ethereum. Borrowers will use a lending protocol through which lenders can deposit funds. Lenders may redeem the assets deposited at any time, and borrowers may settle their debt in full or in part.
Is DeFi lending safe?
There are a number of risks that you need to consider before you begin to use a DeFi lending platform.
- First off, you need to investigate before you invest in the DeFi lending platform itself, so you don’t run the risk of being scammed. To determine whether a DeFi lending platform can be trusted, always conduct your own independent research.
- It’s also essential to check out the lock-up terms on a DeFi protocol. While some platforms, such as Aqru, allow for flexible withdrawal terms on all supported coins and accounts, others require you to lock your tokens for a set period of time. You will be unable to make a withdrawal during this time. As a result, if you require immediate access to funds, there is nothing you can do.
- Finally, keep in mind that the value of cryptocurrencies fluctuates which can lead to impermanent loss. In other words, if the value of the token you are lending outfalls by more than the interest you earn, you will be losing money. This risk can be reduced by creating a diversified lending portfolio of multiple cryptocurrencies. You could also consider lending out Stablecoin tokens to reduce volatility risk.
This detailed discussion shows that Defi lending has a high potential to reshape the entire financial system. It aims to decentralize traditional financial services such as payments, trading, investments, insurance, lending, and borrowing. Defi lending, in conjunction with intriguing technology, has enormous potential to revolutionize the global financial landscape.