Hi there, today we'll get a clear overview of yield farming concept and the use of Stablecoin. This is a common practice among investors that want to make their money work by minimizing the risk, even if there is some.
Concepts you'll learn after reading this article:
- Stablecoins are currencies that are pegged to the value of fiat money, such as the euro or the dollar, and are some of the most widely used on the market
- Yield farming is an investment strategy within the DeFi sector that allows you to put your stable coins to work.
- Among the most popular platforms for yield farming are Aave, Compound and harvest.finance, a decentralised AMM.
Introduction
Stablecoins are coins that, within the cryptocurrency sector, may seem little used. In reality, they are those assets that, paradoxically, are used by most investors, especially in the decentralized finance branch.
In this regard, we talk about yield farming (which we have talked about in our earning strategies in DeFi) and real passive annuities that can be obtained thanks to new financial instruments. Rather than leaving their money in a wallet or, even worse, on an exchange, many people prefer to make their money work.
In this article, we'll find out how you can get the most out of your Stablecoins through yield farming.
Stablecoins: a short introduction to stable virtual currencies
According to Binance's definition
Stablecoins are digital assets designed to simulate the value of fiat currencies such as the dollar or euro. They allow users to transfer value around the world cheaply and quickly, while maintaining price stability.
This means that thanks to an innovative tool such as Stablecoins, you can send real money anywhere in the world, without paying high commissions and, above all, without the price fluctuating during the transfer. This is very useful in the field of cryptocurrencies, especially when you want to exchange assets while maintaining a certain degree of volatility.
Of these, the most popular are undoubtedly USDC, USDT, and DAI, a Stablecoin which, unlike the other two, is the most decentralized. It is no coincidence that the number of DAI blocked in comparison with the total supply of the coin is much higher than for USDC and USDT.
Current Stablecoins situation
According to Glassnode analysis, more than 60% of DAI's total supply is locked up within decentralized platforms. This is because DAI acts as collateral for on-chain assets, which can be borrowed or obtained as rewards through yield farming operations, which we will see later.
On the other hand, however, tokens such as USDC and USDT still have a much higher value in blocked money, simply because they have a much higher total supply.
In any case, the value of Stablecoins in circulation has increased exponentially recently, especially in the last three months. Specifically, according to Glassnode's analysis, there have been spikes of over $13.1 billion in USDT, $9.4 billion in USDT and $5.6 billion in DAI.
Among the main factors behind these numbers, there is certainly the desire for market stability and the movement of stable assets to centralized platforms and exchanges. However, the main reason for such large movements is undoubtedly the possibility of yield farming through one's Stablecoins, securing rewards without exposing oneself too much to the high volatility of certain assets.
But what the f*rm is yield farming?
Yield farming for noobs
In technical jargon, yield farming means farming your cryptocurrencies within liquidity pools, which are 'places' where investors provide liquidity. These are called liquidity providers and are eligible to earn a portion of the fees that are paid during trading in a given pair.
OK, after this rather complicated explanation, let's try to explain yield farming in simple terms. First of all, yield farming is also called liquidity mining, as tokens are "mined" by offering liquidity, i.e. money that will be used to support the trades.
Your money is locked up in a liquidity pool. Each liquidity pool is specific to a pair of coins such as ETH/USDT, ETH/DAI, ETH/USDC, and so on. Money deposited in these liquidity pools will be used in other platforms to be traded or borrowed by other users.
For each transaction made by other users, they will pay commissions. If the transaction takes place within one of the pairs in which you have deposited funds, you will receive part of those commissions. In this sense, your role will be that of a liquidity provider, i.e. a liquidity mining provider.
It is also important to note that if you deposit in a liquidity pool, you will need both assets of a particular pair. Conversely, if you only have ETH and you want to deposit on ETH/USDT, for example, your ETH will be ''split'', i.e. divided into percentages to suit the pool.
That's all cool, but the main risk is the impermanent loss. This type of loss represents a temporary loss of one's funds as a result of large price drops or rises. AMMs and some decentralized exchanges, i.e. the instruments within which liquidity mining takes place, can have delays in updating prices.
Arbitrageurs could therefore take advantage of this situation to make profits from centralized to decentralized exchanges.
How to calculate interests obtained with yield farming
When deciding to embark on a yield farming strategy, one must first know the meaning of APR and APY. The APR stands for annualized percentage return. The APY, on the other hand, is the annualized percentage yield, or the economic return in the form of compound interest.
Compounding interest means depositing, receiving interest, withdrawing, and depositing again, so that you appreciate the interest on higher capital, earning more. Needless to say, compounding with small amounts would be unprofitable, especially on Ethereum, as you would be crushed by commissions.
Precisely for this reason, many small retailers prefer to use the new BINANCE Smart Chain, which is much cheaper in terms of fees. The most striking thing about yield farming, however, is the amount of interest, which is very high compared to the interest of a traditional bank.
For Stablecoins, for example, you can receive interest ranging from 3% to 30% on various yield farming platforms, simply by depositing your funds. Let's take a look at two of the best-known platforms for yield farming. In particular, we will look at Aave and harvest.finance, an automated tool that allows you to maximize yield by avoiding manual operations and, therefore, saving in commissions (commonly called AMM).
Aave
Among the various DeFi protocols that offer the possibility of yield farming in Stablecoins, Aave and Compound are undoubtedly the most popular, with very important dominance. By dominance we mean the influence that a protocol or currency has on the market, and in this case it is based on the TVL (Total Value Locked) in the protocol itself.
In order to maximize returns on these platforms, you have to be aware of the strategy you want to implement based on the risk you are willing to take. What does this mean? You will need to study exactly every step and movement. For example, you might decide to lend your funds in exchange for 11% in the case of DAI.
Alternatively, you might decide to use the new Aave incentives, or staking to receive more Aave as a reward. Again, you might opt to borrow more DAIs, in order to farm them for even more Aave, or by executing compounding strategies.
Obviously, the more you try to maximize the economic return, the higher the risk. Among the major ones, you might run into high price variations of Aave or Compound, breaches within the smart-contract, fees that are too high compared to the invested capital, or volatility of DAI itself, despite being a Stablecoin.
AMM: harvest.finance
An AMM such as harvest.finance is an automated market maker, i.e. an intelligent tool to maximize returns. One of the most famous is yearn.finance, whose currency is even worth more than Bitcoin due to its great scarcity. These tools allow both 'classic' liquidity mining, i.e. through the provision of liquidity in a pair (e.g. ETH/USDT), and yield farming with just one asset.
The special feature of harvest.finance is that it is available not only on the Ethereum network but also on the Binance Smart Chain. In this way, even small investors feel safer and, of course, the barriers to accessing the platform have been reduced. As far as interest in Stablecoins is concerned, there are currently APYs ranging from 8.48% for USDT to 11.37% in USDC.
The difference, however, is that through harvest.finance you will not necessarily receive the same asset you deposited as a reward, but different tokens based on the protocols in which the AMM invests. AMMs, in fact, move from protocol to protocol increasing the return. So you will also end up with a slightly more diversified portfolio based on the various transactions.
If, on the other hand, you want to deposit on the classic ETH/USDT pair via the "Sushi" section of harvest.finance, the APY goes up to 126.97%, with rewards in Sushi and Aave, although the risk is much higher. On the Binance Smart Chain, on the other hand, the percentages and pairs vary, including the rewards.
Yield farming USDT, for example, currently receives 33.98%, with both Venus (VSX) and bFarm tokens, the harvest.finance token belonging to the Binance Smart Chain, as rewards. On USDC and DAI, on the other hand, you will find APYs between 10% and 12%.
Of course, it is also possible to deposit tokens other than Stablecoins, such as Pancake (CAKE), which currently has an APY of 135%.
Conclusions
We have seen an overview of the potential for yield farming with both stablecoins and some tokens such as CAKE.
Putting your tokens to work can be very attractive and rewarding, but you should always consider the risks and commission costs before you start, especially if you are on Ethereum.
It is also important to assess the reliability, stability, and community within a platform. Dapps such as harvest.finance, for example, have over 65% of their utility tokens in staking, a factor that symbolizes the strength of its community.
However, in October 2020, it was hacked and lost $24 million.
Precisely for this reason, everything shown in this article is for informational purposes only and is not meant to be financial advice or an invitation to invest.
Before moving within the cryptocurrency sector, always do your own research and keep up to date.
Did you already know the yield farming concept? What do you think about it, and where do you put your money to maximize your returns? :) Let me know below!
*This article will be published on theledger.it in Italian language following our schedule, and was translated to share my knowledge with you :) Give it a look if you want to support us :)
