ZoneBitcoin EditorialIf we have talked so much about DeFi lately, it is mainly thanks to Yield farming. As soon as they appeared, many believed to see a sort of resurgence of what we had seen with ICOs: That is, a succession of projects that were ever more promising for some and hollow for many of them...
However, Yield Farming is still not dead; Better yet, new projects have appeared. The latter attracting ever more users and investors who are fans of Yield Farming. This goes hand in hand with liquidity pools. This is even what is at the heart of yield farming.
To explain it quickly, here, we can say that yield farming consists of depositing a certain amount of token temporarily in an application (which is starting) to earn additional tokens.
These protocols have even shaped a new landscape and today, they are even at the center of DeFi.
Let's see here what precisely Yield Farming is.
Yield Farming: How did it all start?
If we go back to the beginning, we can say that it all started with the Compound protocol. Compound was one of the first Ethereum-based protocols that allowed its users to generate interest rates on certain tokens. We could therefore earn cryptocurrencies, and without going through a centralized structure. There, with Compound, it was decentralized. The enthusiasm was very strong from the start, because it was very innovative at the time.
And more precisely, it was when Compound began to distribute its governance token, COMP, to users of the protocol that the enthusiasm was intensive.
This is where we started hearing about “Liquidity Mining”.
If you understand the concept of liquidity, you understand what these platforms are all about. In fact, it's crucial. Without liquidity, no transactions, no exchange.
This caused a lot of noise, both in the media and among crypto-holders. At that time, we were starting to talk a lot about DeFi, "Liquidity Mining" and of course, a little later, the famous Yield Farming (or the yield farmer).
Then, there were other projects of this type which enjoyed good popularity such as Curve for example and Uniswap.
And, in fact, it was really Uniswap that paved the way for several other protocols that copied and cloned it and made some improvements.
Why are we talking about Liquidity Mining?
Until then, there were centralized platforms such as Kraken for example. There were also decentralized platforms but these were little used precisely because there was a lack of liquidity.
In fact, we willingly went to centralized platforms out of spite, almost, simply, because there was more liquidity and we knew that our orders could be carried out.
For the little story : You should also know that the concept of liquidity mining is not new. We had already seen a first project called Fcoin which had traumatized people's minds, because it very quickly ended with 135 million dollars lost. In the Fcoin project, users generated tokens when they made transactions. This then encouraged users to do more to earn these tokens. Then, smart people made auto-transactions (Wash trading) just to recover the token. The company became insolvent. But, well, draw a parallel with the DeFi projects that we are going to talk about here. The Fcoin project was innovative and above all centralized. This is, let's say, version one of what we saw afterwards. And its failure also showed the enthusiasm of users for this type of platform. It concretely paved the way for the concept of Liquidity Mining.
So when platforms like Uniswap came along, it was welcomed by all traders. For example, Uniswap allowed users to become liquidity providers. In exchange for their “liquidity,” they were rewarded with a UNI token.
The popularity of Uniswap can be explained by several reasons. The main one being the profit that could obviously be made from it.
You could then win multiple times in one go:
- We could win with the increase in the price of the token used
- Earn additional tokens thanks to the platform's interest rate
- Or even earn via commissions received on transactions.
At this time, the concept of Yield Farming is not yet widely used even if we see it appearing on forums like Reddit for example.
Some will start posting farmer memes, contrasting it with that of an unprofitable trader. We understand that unlike a trader on centralized platforms (CEX), farmers have multiple advantages and germinate lucrative tokens within fertile protocols.
The image speaks for itself and it will remain.
We are now talking more and more about Yield Farming and the term and usage are becoming widely popular, increasing the number of fans of DeFi and the world of cryptocurrencies in general.
Yield Farming: ever stronger incentives
Yield farming involves depositing a certain amount of tokens to earn rewards. This is not a new concept in the world of cryptocurrencies, in fact. Until then, we knew about masternodes and even staking. Indeed.
There, it is still very different in idea and implementation. The idea of Yield Farming is that users will earn tokens in exchange for their participation in DeFi applications. Moreover, today we talk about Yield Farming, where in the past we spoke more about "liquidity mining". We used to say that it was liquidity mining to use the most well-known term used at that time to explain that we were creating a token.
Like wildfire, a bit like the one we saw with the ICO boom in 2017, the craze for Yield Farming was enormous.
Each new project that emerged then offered new native tokens and ways to earn rewards. This was a virtuous circle which fueled demand. Indeed, there were people interested in the yields announced and with more and more users, the tokens increased in value. And, this same increase in value would also attract new people. Etc, that’s a virtuous circle.
It's even to create this circle ex nihilo that the founders of these projects promise high returns and such rewards.
These are called usage incentives. You are given coins to play a game. The more things you do in the room, the more tokens you are given.
Of course, nothing better than high-yield type incentives to attract new users.
How does Yield Farming work?
As we will see below, yield farming has evolved and there are several forms of yield farming today. It also depends on the characteristics of the platforms used.
Only, what we can tell you, to facilitate your understanding, is that initially, and fundamentally, it was the fact of offering users a small percentage of transaction fees if they contribute to add liquidity to a particular application. Typically, this has been the case with Uniswap.
Then, over time, it became more complex, and we also paid the liquidity provider with a native token as a reward. We can say that this is where the concept of Yield Farming really exploded. This was precisely the case with the Compound application which announced that it was going to distribute COMP tokens to users of its platform.
In a few days Compound ranked at the top of the rankings.
Then, other projects were created by adding other incentives. For example, the token that we offered them also allowed them to have the opportunity to participate in the governance of the project.
The different forms of Yield Farming
That said, when we talk about Yield Farming, know that there are several versions of this yield farming. Behind these differences, there are as many different fields to plow as there are different profiles of farmers.
Interest rates may be higher or lower depending on the projects; The highest rates often go hand in hand with the riskiest projects. Needless to say. And vice versa.
So let’s now take a look at the different forms of Yield Farming.
#/Simple Yield Farming to generate interest
This is certainly the oldest and best known version of Yield Farming. It simply involves depositing a certain amount of tokens on platforms such as Aave or Compound for example. (Both being pioneers of the genre).
There are two types of users of these platforms:
- Be a depositor and earn interest as a reward.
- Be a borrower and be able to borrow a line of credit according to the capital deposited.
Depositors and those who borrow will then receive governance tokens. These tokens can also be used to vote on the platform's governance projects. This therefore gives access to voting on certain project parameters. We can also speculate on the token and sell it to generate capital gains for example, especially if it increases in value.
#/ The highest returns on DeFi
This type of Yield Farming is of interest to those looking to achieve higher returns. One of the best known protocols that allows this is certainly Yearn.Finance from Andrew Cronje, launched in January 2020. Yes, these projects are really recent.
Yearn.Finance will, for example, use a series of smart contracts to exchange assets between different liquidity pools with the aim of maximizing profits from these operations. A sort of automated purchase and resale. From this angle, the smart contract will analyze the different market circumstances to automatically execute a maximum profit strategy.
It was and still is very innovative. The founder's idea Andrew Cronje was to simplify yield farming and automate it in some way.
Less than 24 hours after the launch of the platform, the YFI token experienced an explosion of more than 6000% in its price. The founders were the first to be surprised.
He had just understood the attraction that Yield Farming had.
#/ Understanding the Liquidity Provider
We come back to the concept of liquidity again! We told you that this was essential in any platform, especially DeFi.
This is perhaps the most well-known version of Yield Farming.
It is especially with the advent ofUniswap that we have seen a surge of people interested in becoming liquidity providers.
The liquidity provider will receive commission fees on transactions carried out on these platforms.
Even if in those early days, we heard stories of people who had gained a lot with this system, it was not as profitable as that for small investors (what a surprise?!)
These may have different structures with “permanent loss” parameters for example, which can lead to a certain price volatility. This can therefore result in a loss of capital received or invested.
#/Yield Farming by cultivating new tokens
After the certain craze for the Uniswap platform, other projects appeared by cloning the platform and adding a little novelty to it.
Typically we can mention the protocol of Yam.FinanceEg.
There, the yield farmer will deposit a given crypto, a stablecoin or a governance token of DeFi protocols such as YFI or COMP for example, Yearn tokens. Finance and Compound, respectively. By depositing this token, users will receive a new token in exchange.
Yam.finance was one of the first protocols to clearly exploit and make visible the idea of Yield Farming, by choosing the term Yam (sweet potato).
Subsequently, there were many, many (!) protocols cloning Uniswap which continued with concepts linked to the foods that we cultivate... Yield Farming becomes a sort of self-fulfilling prophecy and today , using these services, we really have the impression of cultivating tokens, which was not necessarily explicit in the past.
#/Yield farming of liquidity pool tokens
The fifth activity is close to the fourth, but represents a greater risk, because the token that is put into play is no longer a token, but a token representing a share cash deposited on typical services PancakeSwap, Uniswap or Balancer.
This is the softest version and the most appreciated by crypto-holders.
What are the benefits and risks of Yield Farming?
Well, do we really have to say it? The biggest advantage of Yield Farming is that the profits can be extremely high. Those who get started early can receive big rewards and earn double if the token in question increases in value.
That said, let us remember, as is often the case, that a profitable farmer is only truly profitable if he already has a certain amount of capital.
Those who got rich very quickly are also those who invested the most and participated heavily in liquidity pools.
Likewise, significant capital is still required as it remains risky and they can also lose their capital suddenly. DeFi farmers who staked on HotDogSwap remember this, believe me.
This is why participating in these projects (especially if you have no perspective in time) turns out to be very risky and even more so if you do not clearly understand the criteria to take into account.
The most successful farmers will develop more complex strategies and even use multiple protocols at once. This therefore requires in-depth knowledge of the markets and protocols in place.
Likewise, as we have seen, sometimes entrepreneurs simply copy and paste protocols, they do not check for possible flaws and computer errors, which can prove detrimental. We can think of bZx who lost millions of dollars because of a single line of poorly written code. Audits are needed to validate a protocol.
You can see on coin gecko, a page which lists the most important Yield Farming protocols. We can see the number of audits that the platform has received and the estimated returns.
Yield Farming, the negative aspects, uselessness and the speculative bubble?
We cannot deny that Yield Farming has clearly been at the heart of the development of DeFi. So, we can still wonder if this is not a big financial bubble that will soon burst. For the most skeptical, they will even say that it is a speculative bubble (that of DeFi) within a speculative bubble (that of cryptocurrencies).
It is with DeFi that we have achieved exceptional price increases. And the astonishment is all the greater as we do not always understand the why and how. Projects that theoretically and concretely have little value may see their token explode. Conversely, ambitious projects with real progress can die out and be drowned in the mass.
This lack of correlation between quality/value of projects is partly due to the fact that the projects that interest the most people are fundamentally the projects that promise high returns.
If you were wondering why DeFi protocols are so successful, look no further: greed, my dear friends.
Yes, are the users of these platforms really interested in the platform itself or just to be able to make a profit from it? Isn't there just pure speculation and no real utility behind the promise of profit?
That said, we can't say anything because it also contributes to the expansion of the cryptosphere at the same time.
If we draw a parallel with ICOs, it’s relatively terrifying. We remember the huge ICO speculative bubble at the end of 2017, for example. Most ATH tokens had reached their ATH. And, only those who knew how to sell on time won. While the others, paradoxically perhaps, the most greedy waited too long, imagining that it would go even higher.
What a shame! It only went down!
So what do we think of Yield Farmers? This new type of investor is looking for new opportunities and some are getting rich it seems.
Some criticize them for growing too many useless products which make the land sterile for future generations. Even if we have the idea of the small organic farmer who will grow healthy food, no, dear friends.
We are rather dealing (as in real life... Well) with large farmers with intensive cultivation. Nothing good in the long term but profit in the short term.
That said, there are not only negative effects... Rest assured, in this race for profit, we can see some bright spots.
Does this provide opportunities for DeFi?
Before the appearance of other protocols based on blockchains other than Ethereum, as is the case with the Binance Smart Chain, it was thought that these projects would self-destruct. Indeed, transaction fees on Ethereum became unsustainable and higher than the transaction amounts themselves. The main flaw of Ethereum, namely the fact that it is congested if many people use the network, almost brought an end to these protocols.
One person's misfortune is another's happiness, as they say. And Ethereum's flaws have opened the way to other blockchains more capable of solving these problems that Ethereum is certainly trying to resolve but for a long time and with difficulty...
But, we nevertheless see new protocols appearing much more efficient and faster than those deployed on Ethereum. This has given a sort of new impetus to these platforms and to Yield Farming in general.
Moreover, the great popularity of Binance SmartChain can also and above all be explained by the enthusiasm of yield farmers who saw the ideal replacement in some way. We see new protocols emerging like Pancakeswap (CAKE) for example.
So, just when we thought it was the end of protocols of this type, they resurfaced like a phoenix, even stronger.
Ah..Who would have believed it?
Can we still make predictions about the future regarding cryptocurrencies?
Liquidity mining as a tool
Yield Farming is directly linked to the development of the principle of liquidity mining. A specificity highlighted by Compound and its COMP token. Also a technique used by the Balancer protocol and its BAL token or iEarn and its yearn.finance (YFI) token. The latter recorded the highest increase for this type of token governance to date, with an explosion of more than 6800% in its price less than 24 hours after its launch.
Or even Synthetix, Curve and Ren who associated to create a liquidity pool in relation to Bitcoin (sBTC, renBTC and WBTC) based on Curve. The latter benefiting from numerous incentives for Yield Farmers with a weekly bonus of 10 SNX, 000 REN and an unspecified amount of BAL provided by Synthetix and Ren.
Personalized free money offers which at times could almost trigger a scam alert.
Will Yield Farming last in the long term?
Opinions differ on the question. But the undeniable fact is that the provision of liquidity is at the heart of the proper functioning of DeFi protocols. And Yield Farming is an important supplier in the field, at least for now and for some time to come. Compound has never hidden its ambition to bring cash into its universe to ensure decentralization and allow “normal” users to have an operational service. In any case, this is the main and official reason for the launch of its COMP token.
The observation of this Yield Farming activity within DeFi is very clearly visible. The increase in funds blocked in its universe continues to increase climb to reach today 3,5 billion dollars. Just look at the case of Balancer which offers a service quite similar to Uniswap, but not with the same notoriety.
The implementation of its liquidity mining token BAL has propelled to second place decentralized platforms (DEX) in terms of liquidity, leaving Uniswap far behind. This even if the latter remains at the top of trading volumes over the last 24 hours with more than a third to herself.
It will be interesting to see if Balancer's liquidity mining incentives will allow it to exceed Uniswap in the field of use actuality of its services. Or if this increase will only be artificial and beneficial only to Yield Farmers, like a snake biting its tail. Which is the main risk of this activity which could just be a speculative flash in the pan.
The Yield Farmer has therefore become a full-time player in the DeFi universe. Its liquidity in fact the very richly courted actor of a finance in full construction. Compound has announced that it wants water the fertile lands of DeFi with its COMP token for 4 years consecutive. There is therefore no doubt that these pioneers of a new genre will settle down over time.
The positive fact is probably that this financial windfall will allow, for a time, people capable of hijacking DeFi protocols to do it within a Yield Farming framework and no longer in the form of hacks or malicious diversions.
Worse still, we can also question the legitimacy of this activity in the sense that it seems to be close to Ponzi.
Do your research and accept that this is a risky activity.
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Please note: Like all articles on this blog, this is not financial advice but simply information to help you better understand the world of cryptocurrencies.
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