Yield farming is when somebody lends their crypto so as to make a revenue from the curiosity rewards. It’s referred to as farming as a result of you are attempting (farming) to get the perfect reward charge as attainable, i.e. highest yield charge. Yield farmers will hop between lending swimming pools to get the very best reward charge. Keep in mind reward charges are typically primarily based on how many individuals are within the pool, so yield farmers will attempt to maintain transferring between swimming pools so as to get the very best charges.
Simplified clarification:
Yield farming: discovering the perfect place to retailer your crypto which is able to earn you the very best yields.
AKA farming (discovering) the perfect place to maximise yield. = farming yield.
Yield farming is multifaceted compromising of a number of methods/subtypes to make maximize your return on crypto investments. These embody:
1. Liquidity provision
Present liquidity to a liquidity pool by means of depositing tokens into the pool and obtained returns by means of buying and selling charges on the liquidity pool.
Instance:
You place $500 of ETH and $500 of BAT right into a pool, your buddy does the identical now there’s $2000 within the liquidity pool.$150 of buying and selling charges from folks buying and selling all day lengthy, I earn $75 since I offered 50% of that liquidity to the pool.As extra folks contribute in the direction of the liquidity pool, your minimize of the buying and selling charges turns into much less and fewer. HOWEVER, the worth of the property within the pool is secure, as it can require more cash to maneuver the ratios of the property within the pool. So if the overall worth of property within the liquidity pool was $2000 ($1000 ETH + $1000 BAT) and somebody got here in and spent $500 to purchase some ETH and trade it for BAT, that will increase the worth of ETH loads in comparison with if the overall worth of the liquidity pool was $5,000,000.
2. Lending & Borrowing
Lending: lend crypto property by means of a decentralised platform to earn curiosity like in regular finance. E.g. Aave, Compound
Leveraged Lending: technique used to extend return on funding by means of borrowing and reinvesting.
Right here’s the way it works:
Lend cryptocurrencies to platforms equivalent to Compound or Aave.Deposit $100 price of Primary Consideration Token (BAT) into Aave. Aave will let you borrow in opposition to your deposit, say as much as $60, however in one other cryptocurrency referred to as DAI.Your deposited BAT is incomes an curiosity of 30% APR.You trade your $60 in DAI for BAT and now deposit that $60 price of BAT, so that you at the moment are incomes an curiosity of 30% on $160 price of BAT, as a substitute of $100 price of BAT.
Abstract: you deposit $100 price of crypto equivalent to BAT right into a DEX, and the DEX permits you to borrow in opposition to your deposit, so they offer you $60 price of one other token equivalent to DAI, and also you trade this $60 of DAT trade it for $60 of BAT after which deposit this new BAT into the identical DEX, now you’re incomes curiosity on $160 of BAT reasonably than $100 of BAT.
Borrowing: Borrow crypto property by means of over-collateralization of your present digital property.
Right here’s an instance for example how borrowing works in DeFi:
To be able to have the proper to borrow funds, you will need to first deposit collateral. DeFi loans, are typically overcollateralized, all this implies is that it’s important to put more cash in as collateral than what you need to borrow.As an example, you need to borrow $1000 of USDC, however it’s possible you’ll must deposit $1500 price of ETH as collateral.The explanation overcollateralization is important in DeFi is as a result of there aren’t any intermediaries to make sure that you’ll obtain your funds within the case of fraudulent occasions. Overcollateralization ensures that the creditor is not going to fall sufferer to fraud, as performing fraud on the debtor aspect, simply does not make financial sense.
3. Staking
Staking is technically a type of yield farming as a result of you should purchase cash, stake them, after which earn extra free cash.
For instance with Tezos, in 2021 you had a 6% APY, however it’s important to have the {hardware} and data to arrange your personal staking node that will be dependable all year long. However if you wish to keep away from this problem, you’ll be able to go to a platform equivalent to Coinbase, which stakes for you, however they take a minimize of your 6% APY
4. Holding cash which have a redistribution charge
You need to maintain cash which have the potential to extend in worth. Most individuals put money into cash and tokens which have viability primarily based on their use case potential, the workforce engaged on it, the tokenomics, and so forth.
However one other aspect to take a look at is to put money into cash which have a redistribution charge.
Some cryptocurrencies like Safemoon, cost a charge on transactions e.g. 10% transaction charge, this charge shouldn’t be misplaced however utilized in methods that may profit the remaining holders of the cryptocurrency. 5% is burned without end, and the opposite 5% is redistributed evenly to all different holders. The concept behind that is that the 5% of burned Safemoon, reduces the provision and will in principle improve the worth (if demand stays fixed). So simply by holding the coin Safemoon, you’ll earn free Safemoon by means of everybody else’s transactions.
Instance:
There’s a whole provide of 1000 Safemoon cash. A transaction of 100 safemoon happens with a ten% transaction charge:
-5% Burned:
· Transaction quantity: 100 cash.
· Burned: 5% of 100= 5 cash.
· Impact on Complete Provide: whole provide of Safemoon decreases by 5 cash from 1000 to 995.
-5% Redistributed :
· Redistribution: 5% of 100 = 5 cash
· Your share: because you personal 10% of the overall provide (100 out of 1000 cash), you get 10% of the 5 redistributed cash = 0.5 cash
After the transaction:
· Your New Holdings: 100 (preliminary) + 0.5 (redistributed)= 100.5 safemoon cash
· New whole provide: 995 Safemoon cash (after burning 5 cash).
Abstract:
After this single transaction situation, I now have 100.5 safemoon cash, and the overall provide of safemoon cash in circulation has been diminished to 995 cash.
5. Auto-compounding
PancakeBunny is a platform that optimises your earnings or yields from investments made on PancakeSwap, which is a decentralised trade. While you put money into their token, PancakeBunny affords rewards. With the “auto-compounding” function, PancakeBunny takes any rewards you earn and mechanically reinvests them for you, thus boosting your funding progress with out you having to manually reinvest your earnings.
Instance for example auto-compounding:
Think about you make investments $1000 in Pancake Bunny’s token, and also you earn 10% rewards after a month, which might be $100. With Auto-Compounding:
1) As a substitute of taking that $100 reward out, PancakeBunny mechanically provides it again to your preliminary funding. So now your funding is $1100.
2) The following time rewards are calculated, they’re primarily based on this quantity ($1100), not the unique $1000. If you happen to earn one other 10% reward, that’s $110 this time, not simply $100.
3) This course of repeats, with every spherical of rewards being added to the final, inflicting your funding to develop extra shortly over time since you’re incomes rewards on high of rewards.
Dangers of Yield Farming
Rug Pulls: when builders pull out of a projectImpermanent loss: when the worth of 1 token vastly adjustments in comparison with the opposite token
Degen Yield Farms
Degen yield farms contain lending your cryptocurrency/ offering liquidity to a less-established (degenerate) DeFi venture, with the possibility of receiving rewards within the type of new tokens.
They’re high-risk, high-reward investments, as they provide larger yields but in addition a better threat on the funding.
What are the dangers?
Hacks. The initiatives are untested so they might be susceptible to hacks. And it’s possible you’ll run the chance of the rewards you obtain being nugatory.
Insurance coverage
With automotive insurance coverage you pay $100 a month to guard your automotive, if you happen to get into an accident, the automotive insurance coverage firm pays you what your automotive is price they usually use statistics to foretell the worth of their insurance coverage per thirty days by analysing what number of of their drivers will crash their vehicles and makes use of this knowledge to foretell how a lot they must pay out every year to find out what the month-to-month worth of the insurance coverage is (insurance coverage premium).
With DeFi, the insurance coverage is CODE, so within the good contract you would have a bit of code that claims “Pay farmer Joe £100,000 if it’s 95 levels or hotter 4 days in a row, nevertheless, he has to pay $2000 to provoke his contract”. The good contract makes use of oracles to achieve real-world up-to-date data i.e. to see if it was 95 levels or hotter 4 days in a row.
Stablecoins
Stablecoins are cash whose worth is pegged to the worth of fiat forex. They’re designed to have a secure worth. For instance, the USDC coin is pegged to the US greenback, that means for each 1 USDC in circulation there’s an equal 1 greenback held in reserves.
One other manner stablecoins keep their worth is thru algorithms. Some stablecoins like DAI will use good contracts to handle their provide. If the worth of DAI begins to rise above a greenback, then the good contract will create extra DAI to convey the worth down. If the worth drops, it can cut back the provision to push the worth again up. That is referred to as REBASING.
Collateral-backed stablecoins are stablecoins backed by different cryptocurrencies. For instance, MakerDAOs DAI entails customers depositing their crypto property like ETH into a wise contract as collateral to generate DAI.
