MakerDAO: A Comprehensive Overview

What is MakerDAO? 

Most people in the blockchain space know MakerDAO as the protocol behind the stablecoin DAI. DAI is a cryptocurrency that always maintains a 1:1 peg to the United States dollar. You can think of 1 DAI as equivalent to $1. Meanwhile, the interesting thing here is that Ether backs each DAI and not a third party. The volatility of Ether poses some notable challenges in terms of maintaining the peg. 

This MakerDAO project joins a DAO with another crypto-collateralized stablecoin called DAI. The aim is to build a complete, decentralized finance ecosystem that permits loans and savings on the Ethereum blockchain network. The responsibility of creating and developing the Maker Protocol also saddles this project. The Maker Protocol aims to permit and control the emission of DAI anchored to the dollar. All these things happen on a series of smart contracts on the Ethereum blockchain. 

What has made MakerDAO the largest DeFi project in the crypto and blockchain space? How did it come about? What does the future hold for this project? This article will answer all these and many more questions.

The History of MakerDAO

Rune Christensen started the creation of the MakerDAO project in 2015. In his first work on Reddit, Christensen explained his idea of creating a DAO on Ethereum and using it to generate a stablecoin that will be pegged to the dollar. 

Christensen’s idea went further, and led to the formation of the Maker Foundation. The role of the foundation is to direct all developmental and management efforts of the MakerDAO project. In August 2015, the project launched its Maker (MKR) token. The token established the foundation of the government of the Maker Protocol. 

In December 2017, the first stablecoin came into existence, governed by DAO in the crypto space. 

The Vision Behind MakerDAO

According to the whitepaper, the Maker project aims to create an independent system controlled by smart contracts that manage collateralized debt positions (CDPs) using Ether. Thus, issuing a stable currency hinged on the price of the dollar. This offers new financing options in the relatively nascent blockchain ecosystem.  

Creating a decentralized operating and governance infrastructure that enables people to develop a stablecoin with global reach is the main objective of MakerDAO. Also, the project seeks to create a mechanism that gives users access to decentralized finance (DeFi) through the use of cryptocurrency. This mechanism encourages people to convert their Ether to DAI. 

What Is The Maker Protocol, And How Does It Our Work?

The Maker protocol is a built-in smart contract and runs on the Ethereum blockchain network. This protocol allows the operation of a platform specifically for the generation and control of DAI stablecoin. The protocol also handles Maker Vault, Oracles, and voting within the entire system. With the Maker protocol, you can control the fundamental parameters of the whole system. This includes stability fees, interest rates, collateral assets, and many other things. 

The protocol permits a democratized process where most MKR token holders must sanction every proposed change. This process ensures that the system doesn’t fall into a few hands and prevents manipulation in any way.

The DAI Stablecoin  

The DAI stablecoin is the second element that enables the MakerDAO to function efficiently and effectively. You can only generate the DAI stablecoin under certain conditions and with the use of the Maker protocol. The conditions in question are the ones decided by the community governing the protocol. By implication, DAI is an impartial and decentralized stablecoin. 

Unlike most other stablecoins, DAI does not depend on banks, and it also doesn’t have collateral in fiat. It makes use of cryptocurrency as collateral. You can store your DAI in wallets that support the standard ERC-20 tokens. As DAI is built in this standard. If you want to generate DAI, you need to lock Ether or any currency accepted by the protocol within the Maker Vaults. The Maker Vaults will utilize such cryptocurrencies to create a collateralized debt position (CDP), thus generating the corresponding DAI. You can also save it as savings using a Maker protocol known as DAI Interest Rate (DIR). 

The DAI stabelcoin can function as the following:

Collateralization of DAI Stablecoin

Before you can generate, support, and maintain the value of a stable DAI, you must first collateralize its value. To do so, you will use different tokens that can be deposited into the Maker Vaults. The Maker protocol ensures every DAI stablecoin has real value support that permits the supporting and issuance of each DAI within the ecosystem. 

All collaterals accepted on MakerDAO are all tokens that are supported by the Ethereum blockchain network. Initially, collaterals started as something much more straightforward. Ether was once accepted as the only collateral, but it changed in 2019 upon releasing the multi-collateral DAI protocol (MCD). Other tokens began to be accepted. Today, the accepted tokens include all Basic Attention Tokens (BAT), USDC, wBTC, TUSD, KNC, ZRX, MANA, and Ether. 

The collateralization value for every token varies, and the governance of the Maker protocol decides them. 

Also read Ampleforth: A Comprehensive Guide.

The Maker Vaults

In the course of this article, you must have come across Maker Vaults multiple times. They are the storehouses that hold all cryptocurrencies that act as collateral for DAIs. Using the Maker Vaults, you can:

It is important to note that the interaction with the Maker Vault is done without an intermediary. The user interacts with it directly. There are rules of operation guiding the operation of the Maker Vaults. If you send tokens as collateral to a Maker Vault to generate DAI, the collateral will always be available under certain conditions. If the token price fluctuates beyond the “Settlement Ratio,” the system liquates the position. 

It means that the Maker Vault will sell your crypto to maintain the positive and stable relationship of the DAI. What matters most is to avoid losses to the protocol and to the people who support it. The liquidation is executed by the Maker protocol as stipulated in the interaction of users and the Maker Vaults. 

MakerDAO Governance Protocol 

The Maker Governance Framework (MGF) is in charge of handling the governance of MakerDAO. It is based on thoroughly analyzed and reproducible scientific models created by experts with a proven track record. The framework falls into the following components:

Governance Proposals

They are symbolic votes that are used to scrutinize community sentiment towards particular models or data sources. 

Executive Proposals

They help to rectify the Risk Parameters identified by the models and data accepted by the Government Proposals. Executive votes bring about status change within the DAI Credit System, and it happens every quarter.

In the governance of MakerDAO, the role of the Maker Foundation is vital and very fundamental. The foundation directs the development and management efforts of the project. Aside from that, the Maker Foundation is also dedicated to expanding the project and also seeking financial and institutional support for the protocol. 

The governance model of the Maker protocol ensures that neither the MKR holders nor the Maker Foundation has absolute powers to dictate what happens in the system. 

Conclusion

The future looks great for the MakerDAO ecosystem and its users. Today, developers continue to use DAI and the Maker Protocol to create innovative decentralized finance applications. It thus increases the accessibility to users all over the world. Although people can argue that we are still at the early stage of things, the achievements so far are massive. 

Also, read CURVE FINANCE: Let’s Take A Curve Into Defi Of Stablecoins.

CURVE FINANCE: Let's Take A Curve Into Defi Of Stablecoins

Introduction

Curve finance is a decentralized exchange that facilitates the swapping of crypto-tokens. But it is specifically designed for stablecoins like DAI or USDT with low slippage and low transaction fee while using the liquidity pools like those of Uniswap. Let’s back up a little and first clear the basics.

Decentralized Exchanges

Let’s say Alice wants to send money to Bob. She can transfer the assets by going to a bank. Here a bank works as a centralized entity and verifies the transfer but cryptocurrencies are known for being decentralized.

In a decentralized environment, Alice can send Bob assets without the need of a central entity, and a set of independent nodes to verify the transfer.

Representation Of Decentralized Network
Source: https://www.chainbits.com/content/uploads/2018/04/peer-to-peer-transaction.png

What is Compound Chain?

Liquidity

Liquidity is the process where liquidity providers pour in their crypto tokens in a pool and allows others to exchange the tokens. They earn a fee on every swap where slippage is the price change of a token during a transaction.

Liquidity
Source: https://a.c-dn.net/c/content/dam/publicsites/igcom/uk/images/ContentImage/MDE-2183-Market-liquidity-explained.png

X * Y = K

Understanding this formula is extremely important as it is widely used in the decentralized exchange world to determine the price of two tokens in a particular pool. The variables x and y in the formula represent the quantities of two tokens and k being the constant.
If the value of one token increases the value of the second token automatically decreases in order to maintain the constant k. However, this formula could be problematic when dealing with stablecoins as the stablecoins should remain constant. Also, while dealing with different flavors of the same tokens, prices have to be the same for each flavor. 

Graph

What is Curve Finance?

The curve finance is a platform for the exchange of tokens rather particularly famous for stable tokens. Stable tokens are tokens whose value does not fluctuate rather remain stable.

It offers different flavors of similar tokens like ETH and BTC while using a formula called the STABLE-SWAP INVARIANT for swapping.
The flat line in the graph ensures the stable swap of two coins. Uniswap uses the x * y = k formula where one token’s price can grow exponentially and the other token can lose its price and the two tokens could be dollars to pennies. Curve introduced the Stable-swap invariant in which both the tokens tend to remain stable.

Explanation

Let’s understand this with the help of an example: 

Suppose, Uniswap pool has a pair of USDT/DAI, both of which are of $1 with a proportion of 50/50. After some swapping the pool becomes unstable now with a proportion of 60/40. Now we have an excess of USDT and a scarcity of DAI. So, the price of USDT will become slightly less than 1$ (0.97$) and DAI will become slightly more expensive than 1$ (1.03$) and the pool becomes lopsided. Here, Curve will incentivize the liquidity providers to pour in DAI thus making the pool stable. The formula handling this is known as the Stable-Swap Invariant.

This is what the Stable-Swap Invariant looks like:

Curve’s Growth

Stablecoins have become an integral part of De-fi with more and more varieties of stablecoins in the market. Which means that there is a bigger space for people trading stablecoins. The curve has captured the market and emerged to become a giant by offering low fees and slippage at the same time. Stablecoins on other exchanges might deviate from their price whereas Curve ensures stability, which is one of the many reasons behind Curve’s success.

Learn about Nexus Mutual, a DeFi Project.

Liquidity On Curve

Liquidity providers can earn rewards by providing liquidity in Curve pools just like Uniswap. Additionally, there is another way liquidity providers can earn extra rewards; by the concept of lending. Curve finance offers lending pools where liquidity providers can lend tokens to other exchanges like Compound. This takes place in the background and liquidity providers earn fees on top of the transaction fee, as some protocols enable lending and borrowing functionality to the users. 

It’s important to note that the rewards are based on the transaction volume; they can be high or low. 

You might be wondering about the security risks that might occur while lending a token to another exchange. Curve solves this issue by wrapping the token as a cToken(wrapped token) and lending it to Compound while backing the cToken to the original token.

With Curve, we can have a pool of three or four tokens as well.

Once you deposit the tokens in, you can split it among all the tokens in the pool or you can add just one token. After adding tokens to the pool you will get LP tokens. These LP tokens represent your share in the pool which can be used to stake and mine new CRV tokens.

 The 3Pool is a pool with 3 tokens DAI, USDC and USDT, it does not matter in what token the user adds the liquidity as the reward generated is the same. You can get the LP tokens in all the tokens or in a single token.

A metapool is a pool where a stablecoin is paired against an LP token from another pool. For example, a liquidity provider can deposit DAI into 3Pool and earn pools liquidity token 3CRV.

Source: https://curve.fi/

CRV Token

CRV is Curve’s native token, which is generated when the user deposits and stakes the tokens on the Curve platform. It is awarded to liquidity providers, proportional to their share from the yields created by their pools. With Curve’s transition to become a DAO, CRV tokens also represent the holders’ rights to take part in its governance mechanism. That way they can make proposals and vote on them with CRV. Their Governance follows a ‘time-weighted’ voting system which simply means that the longer they hold CRVs, the greater their voting power in the DAO becomes.

Conclusion

Curve’s smart contract is audited by Trail of Bits but this doesn’t eliminate risks completely. Curve lends tokens to other exchanges and hence opens up another front to security risks. Curve finance is in the market for around a year and needless to say that hackers for sure have tried their unsuccessful attempts to steal the funds.

Here’s a link to Curve-fi: https://curve.fi/

“Curve is an exchange expressly designed for stablecoins and Bitcoin tokens on Ethereum” 

        - Michael Egorov (Founder and CEO of Curve)

Also read, Uniswap v3: Power To Liquidity Providers.

What is HummingBot? A Comprehensive Review

Overview

What is Hummingbot? We will answer the question but first, let us have a clear overview of what it is all about. Hummingbot went live on April 4, 2019. Since then, it has been an amazing high-frequency market-making trading bot. The software is available on several platforms like Github and docker. Since its launch, the Hummingbot community has had a massive increase in the number of its members. 

HummingBot is designed for traders, developers, exchanges, and token issuers. According to CEO David Garcia, “Liquidity is a core piece for healthy markets. HummingBot is building the next generation liquidity platform by empowering users and traders to participate in the markets with the right incentives.” 

There have been more than 4,000 unique Github clones as well as Docker downloads. The code has also been forked on Github more than 100 times. 

Crypto exchanges and token projects spend an estimated $1.2 billion yearly on market making. Since, the cost is in the form of rebates, fees, and cost of inventory. As a result of financial and technical requirements, the crypto market makers can be likened to quantitative hedge funds that charge exorbitant fees on and may demand millions worth of inventory. All these necessitated the development of Hummingbot.  

What is the Avalanche Chain?

What Is Hummingbot?

Now, it is time to answer the question we asked in the first sentence of this post. It is an open-source software client that offers users the opportunity to create and monetize automated and algorithmic trading bots. Alternatively, it is an easy-to-use command-line interface that makes it possible for you to configure, customize, and run automated bots and other strategies. With this, users can make markets on both decentralized and centralized digital asset exchanges. Market making is a trading strategy that is previously accessible to only algorithmic hedge funds. 

Market making is a trading strategy where HummingBot continues to post limit bids and ask for offers on the market and then waits for the various market participants to fill their orders. As a market maker, HummingBot quotes two-sided markets by making bids and offers available on the market. If market making is still confusing to you, then consider this example. A shop X buys a product from Mr. A at a cheaper price and sells it to Mr. B at a higher price for a specific amount of profit. The shop X is the market maker in this case. This is exactly what HummingBot does through the use of bots.

Today, anyone can be a high-frequency trader, earning huge profits from market-making. The software enables users with limited technical know-how to engage in out-of-the-box frequency market making. The Hummingbot software is built for institutional-grade performance, and most importantly reliability. 

It is built on technologies like Cython (Python compiled into C). Hummingbot also utilizes low-level programming to optimize the memory-efficient and speed required to carry out high-frequency trading algorithms. It will serve as a base platform where users can customize and build their market-making and trading strategies. The design philosophy of Hummingbot is to fuse simplicity and to make it easy to use with performance and flexibility. Now we have a clear understanding of what Hummingbot is. Let's go-ahead to explore the Hummingbot command-line interface (CLI). 

What is Hummingbot Command Line Interface?

Every user operates Hummingbot through an interactive command-line interface (CLI). It is a text-based interface designed for entering commands. There is a “command” prompt on the CLI and it is displayed whenever the interface is ready to accept a “command.”On the CLI, you can only execute tasks by entering a command. The command-line interface employed by Hummingbot helps users to configure and run the bot. CLI also helps to generate logs of the trades that were executed. The command-line interface (CLI) splits into five panes and they include the following:

In order to start Hummingbot from the source, here are the prerequisites:

The Crypto Inventory

To run a trading bot, users need some inventory of cryptocurrency assets available on the exchange. Or in their Ethereum wallet, if they are using Ethereum-based decentralized exchanges. Every user needs an inventory of both the base asset and the quote asset. The base asset is the asset that you are buying or selling while the quote asset is the one you exchange for the base asset. 

API Keys

To run a bot on centralized crypto exchanges like Coinbase, Binance, etc, users will need to enter the exchange API keys. You will have to do this during the Hummingbot configuration process. 

Ethereum Wallet

For users to be able to earn rewards from liquidity bounties, they will need an Ethereum wallet when running Hummingbot on an Ethereum-based decentralized exchange.

Ethereum Node (Dex only)

When running a Hummingbot on an Ethereum-based decentralized exchange, your wallet will send signed transactions to the blockchain system through an Ethereum node. 

Hummingbot Miner

The Hummingbot Miner is a liquidity mining platform that makes it possible for sponsors to incentivize liquidity provision by leveraging token rewards on order book-based exchanges. If you sign up for the Hummingbot Miner, you can earn token rewards for providing liquidity for some trading pairs. 

Users can set up their liquidity mining on the Miner App in order to see real-time rates of their rewards and performance. It also allows you to keep track of your payouts and check market leaders. Liquidity mining is the term for a community-based and data-driven approach to market-making. Here, a token issuer or an exchange rewards a pool of miners to ensure liquidity is available for a particular token. 

It is open, hence anyone can participate and you can track your earnings every minute. Also, it is non-custodial meaning that the platform doesn’t have control over your token. To start as a liquidity provider on Humminmgbot, you will need two sets of API Keys. Also, you can use your own trading bots and strategies to take part in liquidity mining. For those that don’t have their own trading bots, Hummingbot allows them access to quant/algo strategies. 

What is Tendermint Core?

Hummingbot Supported-Installation Environments

PlatformBinaryDockerSource
Windowsyesyesyes
macOSyesyesyes
Linux-yesyes
Raspberry Pi-yesyes

For experienced and technical users, it is advisable you set up a cloud instance, then install the Docker version or from the source. Doing this enables the Hummingbot software to run 24/7. You can use Hummingbot as a long-running service using cloud platforms like Google Cloud Platforms, Amazon Web Services, and Microsoft Azure.

 

Hummingbot Strategic Partnership

Hummingbot is in collaboration with many well-known decentralized finance (DeFi) platforms. They received a development grant from 0x, a leading open-source protocol for DEXs. The grant was to support the 0x ecosystem with Hummingbot. Hummingbot’s collaboration with 0x will help lower the barriers to providing liquidity in the 0x ecosystem. 

What Does The Future Hold For Hummingbot Protocol?

The team plans to continue to build additional capabilities on the Hummingbot network to maximize its utility for the growing users. They also, intend to continually roll-out more exchange connectors to help link Hummingbot to more exchanges. Also, there is a constant tweaking of the graphical user interface (GUI) to make it more user-friendly. 

Conclusion 

In this article, we have taken time to answer the question, “what is Hummingbot?” The article also explores other functions and capabilities of this open-source protocol for crypto traders. The platform is also seeking partnerships with cryptocurrency exchanges. It also welcomes the token issuers with interest in the professional deployment of Hummingbot. 

Learn about Phantasma Chain in our article.

Nexus Mutual: A Deep Dive

Decentralized finance (DeFi) has been the center of attraction in the crypto space these days, and Nexus Mutual will play a vital role in insurance. One of the most significant risks in DeFi lies in the failure of the smart contract. It doesn't matter if it is hacked or bugged; smart contract failure is the fastest way to lose your money. You can agree with me that it will be nice to hedge against this risk. The Nexus Protocol has made it possible for us to mitigate the threat of losing your money on DeFi. 

In this article, we will take a closer look at decentralized insurance like Nexus Mutual. 

What is Nexus Mutual?

It is an Ethereum-based decentralized platform that creates insurance products with community-based management and financials. You can also see it as a blockchain-based platform that offers decentralized insurance products. The first product of Nexus is the smart contract cover. This protects users against smart contract vulnerabilities. This only covers smart contracts used on the different decentralized finance (DeFi) platforms. 

Today, the insurance industry is dominated by complex conglomerates that utilize models driven by profit margins, premiums, and reinvestments. The Nexus Mutual blockchain aims to disrupt the traditional insurance business model. It hopes to rewire stakeholder incentives to assess risks proactively and, at the same time, collectivizing financials. 

Learn about Binance DeFi project

Nexus Mutual was launched with only one type of cover: Smart Contract Coverage. It uses a system of democratized risk assessment and pooled claim staking to protect against any financial loss. It means that staking can be executed on multiple contracts at the same time in order to increase potential rewards and minimize losses. Also, any reward earned from purchasing covers will be equally shared among all stakeholders of that particular contract. Anyone can become a member of Nexus and can purchase the Nexus Mutual native token called NXM. The NXM can be used to purchase insurance coverage and also to be part of the Nexus governance process. 

The governance protocol of NXM involves the ability to assess the risks of covering a particular smart contract. The holders of NXM will have to vote on whether to accept claims or not. This usage makes NXM a multifaceted utility token that drives the Nexus ecosystem. You can only buy the NXM token on the Nexus platform, and it is not available on exchanges. Also, the utility token can only be transferred between Nexus Mutual members. The NXM token price fluctuates in response to the amount of capital the mutual holds in comparison to the amount of money needed to fulfill its existing liability across claims. When the mutual have enough funds, the price of NXM increases. On the other hand, it decreases when the mutual requires more funds. 

What is the Purchasing Coverage on Nexus Mutual?

 To purchase a Smart Contract Cover, you must do the following:

The price coverage is determined by the members of Nexus Mutual, known as risk assessors. These people are experts in smart contract auditing. If these risk assessors determine that a smart contract is safe, coverage can be initiated. Now, the risk assessors have to stake NXM towards the coverage pool. The stakes will be used to pay for claims if there happens to be a breach of the smart contract. Therefore, these Risk Assessors are incentivized to only stake on smart contracts that they know to be secure. Once the staking has been made, the tokens are locked up for 90 days. 

The Nexus Mutual insurance can cover all Ethereum smart contract addresses. However, there must be a sufficient amount of NXM token that is staked to cover the claim liability. Examples of smart contracts that have been covered include Compound, Uniswap, Maker, Curve, and Aave. Nexus coverage can last from a single to a number of years. Whereas the staked insurance ranges from 1ETH to 50000 DAI. 

Nexus Governance Process 

The members of Nexus Mutual and an advisory board through its DAO are responsible for the platform's governance. The Advisory board comprises five members that include company founders, industry experts in smart contract security, insurance and mutuals, and legal and regulatory bodies. Also, any member can be voted into the advisory board to replace an already existing member. 

A member can suggest changes to the blockchain protocol by submitting a proposal through its governance platform. Once a member submits a proposal, the advisory board will verify the proposal and suggest an outcome for it. They will also determine the total NXM token rewards shared amongst members who participated in the voting process. The voting itself is also executed through NXM. The weight of a member's vote is proportional to the amount of NXM token the members staked for voting. One thing to note is that rewards are shared among the number of those who vote. The sharing is not proportional to the number of tokens that voted. In the end, this process helps to ensure a more equitable reward-based structure that is not dependent on NXM holdings. 

Also, read about Ethereum Enterprise Alliance

What is the Difference Between Nexus and Traditional Insurance?

In the case of traditional insurance, the insurance agency decides on what to do with its customers' money. The insurance agency decides on how to invest, the risks to cover, when stakeholders are paid, and so on. They always carry out lengthy damage assessments and rarely pay the actual worth of the damaged asset. The reason is that the interest of both the insured and the insurer are more adversarial than cooperative.

On Nexus Mutual, membership tokens and incentives are more aligned to help develop the community. It is far better than the adversarial relationship described above. 

Conclusion 

Although blockchain for insurance has been growing as a sector, Nexus Mutual is the first decentralized model being applied in insurance. Its Smart Contract Cover has been essential in the decentralized finance (DeFi) ecosystem. Some future Nexus insurance products include coverage for crypto wallets, etc.

Read Compound Chain: A Comprehensive Guide

Compound Defi Protocol Explained

Introduction

Decentralized finance (Defi) is arguably the most promising application of Ethereum blockchain, and Compound Defi protocol is taking advantage of this potential. With Defi services, users are granted access to multiple financial services that were previously offered by banks and other traditional institutions.
Defi platforms like Compound leverage the features of smart contracts to offer accessible decentralized alternatives. This is the reason, it often refers as open finance. Some of the best-known uses cases of decentralized finance include lending protocols, decentralized exchanges, stable coins, and payment networks.

In traditional banks, once you have deposited your money, you can only earn interest but cannot use the money in any other way. Think about a situation where you can spend the money on your savings while still saving the money. This is exactly what Defi is trying to offer to its users. Compound Defi protocol is one of the companies working on providing such services.
In this article, we will explore how this Ethereum based project is trying to allow people access to their savings.

What Is Compound Defi Protocol

Compound Defi protocol is a lending protocol that runs on the Ethereum blockchain. It is a pooled algorithm money market protocol. Like other Decentralized Finance (Defi) protocols, Compound Defi protocol is a network that is an open-source smart contract.

The focus of the Compound is to allow borrowers to access loans and lenders to provide loans. The Compound is able to achieve this by locking their crypto assets into the protocol. Each crypto-asset determines the demines the interest rate. Every mined block generates an interest. Borrowers can pay back the loan at any time, while assets can also be withdrawn in the same manner.

The Compound decentralized fiancé protocol also has a native token (cToken) that allows users to earn interest on their money. Users can also transfer, trade, and use the money in other applications. On the surface, you may think that the Compound is completely designed like other Defi protocols. The Compound protocol differs in the tokenization of assets locked in the system. We will talk about the cToken later on in this article. The Compound protocol is completely open; hence there is no need for any paperwork or intermediary.

If you have an Ethereum-enabled wallet, you can be part of the Compound market. The Compound provides users with three main services:

As a market player on Compound, you are not guaranteed a fixed interest because there is no duration to your participation. As a lender or borrower on the platform, you can only know what the interest rate is at that moment. The interest rate can change at any point. The design of the Compound protocol ensures that there is no counterparty risk. However, it would be best if you didn’t forget that there is also the risk of code vulnerabilities.

The Interest Rates On Compound Defi Protocol

When we consider the interest rates on the Compound, we will undoubtedly see an interesting pattern. On the platform, it is obvious to see that it is attractive to supply Dai, Sai, or USDC stable coins compared to other crypto assets. By supplying Dai, you could earn an interest of up to 8% every year. This is contrary to the paltry 0.01% interest you earn when you supply Ethereum.
It is glaringly to us that stable assets are the most desirable assets to supply on the Compound protocol. If you borrow volatile assets on the Compound protocol, the amount you will have to repay becomes more uncertain. Therefore, you will have to consider both the unstable interest rates and the volatile value of the crypto asset. Hence, making a prediction on your repayment would be very tricky, if not difficult.

The Compound Native Token (cToken)

The Compound tokens (cToken) are ERC-20 tokens that represent a user’s fund deposit on the Compound protocol. When a user puts another ERC-20 coin like the USDC in the protocol, the user gets an equivalent amount of cTokens. For instance, when you lock up USDC in the protocol, it generates cUSD tokens. These cUSD tokens automatically earn interest for you.
Whenever you want, you can redeem your cUSDC for the normal USDC, including the interest paid in USDC. The cTokens act as twins of the original Compound token. When a user supplies Dai or any other crypto assets to the Compound protocol, their balance will be represented in cTokens. This is how the interest rates are calculated on the Compound Defi protocol.
For example, when Dai gets supplied to the Compound protocol, the wallet is represented in cDai. Meanwhile, the interest is represented by the Dai token, which increases in price relative to Dai. All the received Dai tokens will be pooled together by the Compound’s smart contract. Over time, the exchange rate between cDai and Dai increases, just as the total borrowing balance also increases.
When a user withdraws his/her balance from the Compound protocol, the process automatically converts cDai into Dai at the current rate. This transaction also includes the additional interest rate. The cTokens always appreciate their counterparts.

The Compound Governance

Although Defi implies that there is no single point of failure, however, that is not practically the case, all decentralized finance (Defi) projects are developed by companies who also retain full control of the smart contract development. By a simple flip of a switch, the entire protocol can be turned off, and the Compound is not excluded.
The idea behind such a scenario is to have failsafe in situations like unexpected blockchain forks, black swan events, and smart contract hacks. However, Defi with all its highlighted flaws is far better than traditional financial institutions. Recently, Compound announced the release of a new governance token (COMP), which aims to remove the largest point of failure in the protocol. The Compound team is seen as the largest point of failure in the system, and anyone with at least 1% of the total COMP token can vote for proposals. These proposals are executable code that is subject to a three-day voting period.

Borrowing On Compound Defi Protocol

The fact that Compound aims to have a zero counterparty risk means that borrowers will have to deposit collateral before borrowing from Compound. The ability to maintain excess collateral ensures that there is a near-zero chance of a borrower defaulting with payment.
For example, if you want to borrow Dai, you will have to deposit ETH as collateral. Each borrowing position is over collateralized; therefore, the value you borrow will be less than what you will deposit. Meanwhile, the underlying collateral is also volatile and could drop below a certain threshold. If it drops, the smart contract trigger will close the position (liquidation).
In this instance, the borrower gets to keep the borrowed asset but loses the collateral. For a user to get back his/her collateral, the user will have to repay the credit, and that includes the outstanding interest.

Lending on Compound Defi Protocol

It is akin to a typical cash account where you earn by leaving your money in the bank. In Compound, you will need to deposit your crypto asset before you can earn interest. You can withdraw your asset at any time since there is no duration lock, and you won’t get penalized.

Conclusion

Compound Defi protocol wants to help you have more control over the money you save and earn. Although the Compound project has its shortfalls, the long-term goal is to become completely decentralized.

To learn about DeFi Categories, read our article on Decentralized Finance Categories Explained.

Xord is a Blockchain development company providing Blockchain solutions to your business processes. Connect with us for your projects and free Blockchain consultation at https://blockapexlabs.com/contact/

Decentralized Finance Categories Explained

In this article, you will get to know about the Decentralized Finance categories and projects associated with each category.

Introduction:

Decentralized Finance (DeFi), is finance but on the blockchain. In simpler terms, DeFi is permissionless dealing with finance, meaning, the intermediary such as banks, insurance companies, brokers, and more in real finance are replaced by smart contracts in Ethereum.

Read more about Decentralized Finance here.

Decentralized Finance Categories:

DeFi projects fall into different categories, these categories are:

Lending:

In Centralized Finance (CeFi), lending is when you allow someone or an organization to utilize assets by borrowing and paying it back later on. The Decentralized Finance categories also include lending, which is not that different. In DeFi, as the name suggests, the assets are cryptocurrencies or tokens, with no central authorities. Lending protocols allow the lender to earn interest as an incentive.

In the traditional finance system, you have to give proof of your identity in order to take out a loan. DeFi removes all of this friction. The collateral amount is all you need to take out a loan, there is no need for proof of identity.

The number of tokens or cryptocurrencies you can take out as a loan varies depending upon the rate of that token or cryptocurrency. At times, the amount of collateral put is greater than the loan.

A new lending protocol lets you borrow money without submitting collateral, i.e. via flash loans.

Flash loans or zero risk loans are contracts lending money. But there is one catch, it has to be paid back by the end of the execution of the same transaction. If he or she fails to do so the whole transaction will be reverted as if it never happened. This is only possible in the blockchain. The interest in flash loans is either zero or nominal.

Projects:

Some of the leading Decentralized Finance lending projects are:

DEXes:

Decentralized Finance categories also include DEXes, which deals with the exchange or trading of cryptocurrencies or tokens. Being part of the blockchain there is no need for a central authority. As a result, DEXes don’t have one point of failure. Your cryptocurrencies or tokens stay in your wallet, hence it reduces the number of risks. You are not putting your assets under someone else’s control, like in centralized exchanges where you put your assets in the exchange. The only time your assets leave your wallet is when a transaction takes place. DEXes don’t require some long procedure to verify your identity and provide legal documentation, as long as you have assets, you can trade them without restrictions. Smart contracts help to make all of these features possible.

DEXes use the concept of either order books or liquidity pools.

Using Order Books:

Order books are essentially just books with trade orders in it. The process of using order books is as below.

  1. Users willing to exchange submit a buy or sell request, this request is stored in order books. This ordering turns the user into a “maker”. 
  2. These order books hold records about which tokens the user is willing to exchange and for what in return.
  3. To validate the order, makers sign it with the private key.
  4. This order is broadcasted through the exchange network and takers come forward with a trade.
  5. If the maker is satisfied they confirm the order, and the smart contract takes care of the rest of the process.

Using Liquidity Pools:

The problem with order books is that they bring back the obstacle of centralization.

Decentralized Finance projects jump over this obstacle with the help of liquidity pools. The market makers are referred to as liquidity providers in this model.

Let’s look into how liquidity pools work.

Take a simple pool, this pool holds two tokens, when a new liquidity pool is created, a liquidity provider supplies both tokens of equal value to the liquidity pool and sets their initial price. Every person adding tokens to the liquidity pool will provide an equal value of both tokens. Liquidity providers earn LP tokens, based on how much liquidity they provide to the pool, when a trade takes place, a fee value is distributed among all LP token holders. With each trade, the deterministic price algorithm adjusts the price of the tokens. This mechanism is known as Automated Market Making.

Projects:

Some of the leading DeFi DEXes are:

Derivatives:

Derivatives are contracts with their values based on something else. By definition,

"The derivative itself is a contract between two or more parties, and the derivative derives its price from fluctuations in the underlying asset” - Investopedia.

To understand derivatives completely, let’s consider an example:

When the price of wheat increases, the price of bread will increase, similarly when the price of wheat decreases, the price of bread will decrease. Now, a wheat seller will have an advantage when the price of wheat increases whereas a bread seller will be at a disadvantage. The opposite is true when the price of wheat decreases. Suppose, the wheat seller estimated that the price of wheat will decrease, and the bread seller estimated that the price of wheat will increase in the future. So they enter into a contract that regardless of the price of wheat in the future, for a specified period, they will make the trade at a certain fixed price. This is derivative in finance.

Now you must be thinking that if these people wouldn’t have signed the contract, one of them would have earned more. It’s true, however, both the parties saw risk and minimized it. 

In DeFi, derivatives are the same as in CeFi.

The prices of cryptocurrencies are volatile, hence derivatives make great use in DeFi. 

Synthetic Assets:

The values of assets fluctuate in both CeFi and DeFi, If you think about today’s financial markets, there are things you can buy or sell in one area or country. Let’s take gold or shares as an example, the local legal infrastructure makes it hard or impossible to buy them. Synthetic assets make it possible, let’s say these shares or gold is represented by an ERC, you can buy that from anywhere through the internet. You don’t need to have a safe or a brokerage account.

Projects:

Some of the leading projects working on Decentralized Finance derivatives are:

Payments:

In finance, payments refer to the transferring of assets or services in return for assets or services. In other words, payments are just transactions.

Transactions are plausibly the foundation of the blockchain, more specifically peer-to-peer transactions or payments. The idea behind DeFi payments is to facilitate the unbanked and underbanked population as well as institutions. Decentralized Finance payments are secure and direct.

Projects:

Some of the leading DeFi payment protocols are:

Stable Coins:

Stablecoins are cryptocurrencies that provide stability to the prices of cryptocurrencies. As you know the price of cryptocurrencies is volatile. Collateral is deposited in the smart contracts and then a portion of the value of those deposited collateral is paid out as a newly minted stablecoin. Of course, these can be traded like any other cryptocurrency. This collateral can be a commodity, a fiat asset, or some other cryptocurrency.

Projects:

Some projects that are based on stablecoins are:

Insurance:

Decentralized Finance categories also cover Insurance. Insurance is a safety net. The company provides compensation or reimbursement for specified loss, fraud, or accidents. DeFi is still emerging and may contain faults or bugs or is even prone to hack attacks, many examples of exploitation occurred this very year. The assurance that in such a case, you will be compensated was much needed. People are still hesitant to invest large amounts in DeFi projects, with insurance projects coming forward, DeFi will have the opportunity to grow further.  

Projects:

Some of the leading DeFi insurance projects are:

Index Funds:

Indexing, in finance, is the statistical change in market or stocks. Consider it a basket of stocks measured together, for example, the FTSE 100 index represents 100 major companies listed on the London stock exchange. The rise or fall of stock’s rate of the companies listed on this index has the same effect on the index. Indices can be country-based, or they could be the exchange-based they are listed on, then there are regional indices. Index funds are funds that track a market’s index. This market can be a market of stock, bonds, currencies, commodities, or other assets.

In simple terms index funds are buying shares with funds. In DeFi, it is the same. Then a market expert invests this money or funds to buy cryptocurrencies, you don’t have to keep track of risks, calculate returns. An index fund does all of this for you. But DeFi Index funds are more suitable for long runs. Index funds give the advantage of simplified investing without having to worry about maintaining a portfolio.

Projects:

Some of the leading DeFi lending projects are:

Conclusion:

CeFi came into existence much earlier than DeFi, so while Decentralized Finance categories are similar to Centralized Finance, it is still emerging. DeFi is one of the greatest uses of blockchain and in the near future we will get to see more applications of DeFi.

DeFi projects are dominating the blockchain markets, a total of $9.06B USD are locked in DeFi projects as of 18th September 2020. Uniswap dominates the market by holding 15.52% of the market.

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