DeFi (decentralized finance) is experiencing a strong hype in the crypto world. This refers to financial services in which anyone can participate without asking for permission and without having to trust a central authority.
These protocols run entirely autonomously and are no longer administered externally by anyone.
Thus, everyone can play “bank” virtually by himself. It’s all about providing liquidity, be it the provision of liquidity for credit pools or for liquidity pools for decentralized exchanges. With DeFi, an smart contract is in play, in which not the institution (e.g. a bank) that does this work, but you as lender receives the full piece of the interest rate.
Defi tokens exploded in price in some cases and were able to bring high returns to some investors. The biggest DeFi hype and trend is called Yield Farming (also called “Liquidity Mining”). It is the idea to deposit crypto assets in individual protocols in order to receive the protocol token as compensation. Basically one wants to “make the crypto currencies work for you”. For each day you participate in the network, you receive the respective protocol token as interest.
The dangers of the current trend
The newly cloned DeFi protocol Hotdog promised insane returns of up to one million percent annual yield to attract liquidity providers. It is another doppelganger of the popular liquidity platform Uniswap.
HotdogSwap was launched on September 2 and provided a largely illiquid coin whose price rose to over $5,000 USD according to Uniswap’s analysis dashboard, Uniswap.info. According to the HotdogSwap dashboard, this token is now worth $0.0332 at the time of this writing.
A Reddit article shows how the token crashes from $4,000 to $1 in just five minutes.
The Yam protocol gained momentum in the DeFi room as the second purely decentralized DeFi project after Yearn Finance. It enabled the yam owners to “govern” the protocol (voting), using a decentralized government model. Yam co-founder Brock Elmore noticed on August 13 that the protocol had a critical flaw that crippled the Yam system. Although the digital assets “deposited” via the Yam protocol were not lost, the value of the Yam tokens dropped dramatically to zero.
The already mentioned uniswap is a particularly easy to integrate exchange protocol on the Ethereum block chain. Here all ERC-20 tokens can be exchanged against each other and also against ether. If the token is not listed in the drop-down menu, simply enter the contract address in the field. Even bringing the token into the drop-down menu is not difficult. For this purpose a request on github is sufficient. This open concept opens the doors to fraudsters. They take the name and ticker ( symbol) of known, trustworthy tokens and offer their own fake ones to the fooled users.
In order to put an end to the goings-on on Uniswap, rules are needed for adding the tokens to the drop-down field. This would mean that you would still need someone external to control the projects.
The model to make money work for you sounds very promising.
But currently there is no real reason to borrow from decentralized protocols, except who wants to do leverage trading with the borrowed money (high risk). Therefore, there is a danger that some borrowers will be liquidated as soon as the volatility hits back. In addition, the current “value” of the tokens “only” exists in governance. As long as this does not change, you only have a token that is worth a vote. How much this vote is worth to you, everyone has to decide for himself.
In addition, as already described above, fast money and unregulated systems always attract hackers and fraudsters. As long as such protocols are not subject to a state regulatory authority, the highest caution is required.