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Arnaud Deblander
Apr 28, 2022 6:25 AM

You’ve probably all heard the term: Yield Farming, right? As you may have guessed, we are going to dig once again into a subject related to DeFi protocols. This is not surprising as DeFi protocols are at the center of the conversations. The most used Dapps on blockchains like ETH, BSC or SOL are most often DeFi protocols.

Let’s get back to the point, shall we?

Yield Farming consists of a set of techniques used to maximize return on capital; some combined, involving one or more DeFi protocols.

Yield Farming explained

Yield Farming is based on several facets of the DeFi ecosystem, including lending, borrowing, staking, and liquidity providing. Before going further in the elaboration of potential strategies, it is necessary to go back over each component of Yield Farming.

Lending

As the name suggests, lending is simply lending your cryptos for an interest rate. It was a small revolution at the very beginning of DeFi but it has now become more common. There are two ways to lend your cryptos: the first is to use a DeFi protocol which can be interesting when you know a little more about it and for the rate of return too.

For those who do not want to use a DeFi wallet and prefer to stay on a centralized exchange platform, most of the big exchanges like Binance, Crypto.com, or Kucoin offer this possibility. So, instead of letting your cryptos sit idle, you might as well make some attractive gains from it through lending.

Borrowing

Just as explicit as the above, if DeFi protocols allow you to lend money, it is quite normal that the counterparty is true too, isn’t it? Borrowing allows you to borrow money on the crypto market, so you can invest it and thus use leverage.

The only thing you need to borrow crypto is a collateral amount. On Binance for example, you are allowed to borrow up to 65% of your collateral. This means that if you have $10,000, you can borrow $6,500, which gives you a usable capital of $1,500.

It is also possible to make use of so-called flash loans, which are loans without the need for collateral that occur within the same block. This type of loan is most often used for very short-term arbitrage operations, using an adapted smart contract.

Staking

Staking is not much more complicated than its lending and borrowing counterparts and in fact, shares many similarities with lending. Indeed, staking involves locking in funds for a period of time that can be determined or indefinite.

You can stack a wide range of coins or stablecoins, all of which have different yields depending on their purpose and the platform you stake on. Staking stablecoin on Binance will indeed be less rewarding than on a DeFi protocol, where there is a higher risk.

There are two types of staking, the so-called classic staking consists of blocking a coin, ETH for example, for a certain period of time. Then there is a type of staking which is an incentive of the DeFi platforms, which consists in staking liquidity tokens.

On the subject of staking liquidity tokens, check out the attractive rewards that you will receive when you stake UBXT tokens. Not only do you receive an Annual Percentage Rate (APR) on your UBXT staked but you also receive a percentage of the performance fees received by Upbots and Superbots.

Liquidity provider

We have already talked about it in a previous article, but let’s come back to the subject nevertheless. As you know by now, decentralized trading platforms do not use order books as is the case on CEX. Also, there is no third party involved in making the market and providing liquidity.

DEX platforms such as Uniswap or Pancakeswap, therefore, use automatic market-making algorithms to ensure liquidity. They give everyone the opportunity to become a market maker by providing tokens in a liquidity pool. As nothing is free in this world, you get fees in return as well as LP tokens. The latter corresponds to your share in the liquidity pool.

Yield Farming vs Regular Staking

Yield Farming will therefore combine several of the aspects mentioned above to maximize the return. From this strict point of view, Yield Farming will be superior to Regular Staking. In fact, regular staking, for one stablecoin, can yield up to 10% APY, and that’s it, you lock in your capital and receive a rate of return.

Yield farming has a much shorter-term perspective than traditional staking. A yield farmer could for example decide to borrow cryptos on one protocol and then use that capital to borrow even more on a new protocol.

The second phase can be to use this new capital in a liquidity pool. By choosing the right platform, it is possible to receive LP token that can be staked on this same protocol, boosting, even more, the rate of return.

Associated risks

The risk associated with using classic stablecoin staking is limited to the platform. If you use a centralized platform like Binance, this risk is relatively low.

When you are doing Yield Farming, on the other hand, the risk is much higher as it involves many steps. Here is a non-exhaustive list of the risks associated with yield farming:

  • Liquidation due to leverage (Borrowed fund)

  • Systemic risk

  • Falling prices

  • Bug

  • Attack on the platform

Yield Farming is therefore a high-risk, high reward investment!

Conclusion

Yield Farming is a more sophisticated practice than simple staking and it allows you to reap more returns, at the cost of higher risk.

It is also possible that yield farming can quickly become outdated and yield nothing, forcing farmers to change their methods, which requires constant verification of the viability of the strategy.

Before you embark on the adventure of yield farming, It is important to do thorough research and fully understand how it works. Often, yield farming is a tool that is used by experienced traders and investors but it is never too late to start learning all about it in order to reap the benefits from yield farming!