The yield farming space is probably the most confusing piece of the crypto puzzle. At its most basic, it involves locking up ETH, USDT or other types of tokens into a smart contract. The difference lies in the specifics of the smart contract, as well as the number and enthusiasm of participants. The common thread is the possibility to receive passive income, instead of holding onto tokens long-term while hoping for gains!
Yield farming could be a risky endeavour, which can cause almost immediate losses. Still, the inflow of funds into most projects usually means there is a chance for windfall gains. This chance continued to attract new players, and the funds locked in decentralized finance exceeded $14.3B as of November 2020, growing more than 20 times in the past year.
Anyway, the potential gains from yield farming highly depend on which protocol you’re choosing. While most projects attempt to create a long-term value proposition, each with its own risks, it might be hard to study and choose the best for you.
For your help, we picked four leading DeFi projects specializing in yield farming, to show how those startups develop and what pitfalls they meet with.
Curve Finance builds up the infrastructure of decentralized finance, by offering a specialized exchange based on stablecoins. Curve Finance focuses on dollar-pegged coins DAI, USDC, USDT, TUSD, BUSD and sUSD, offering relatively low trading fees.
The speciality of Curve Finance is to offer direct swaps between stablecoins. Other decentralized exchanges offer swaps through ETH, which increases volatility, while also incurring gas fees. Arbitrage or swaps for another reason between dollar-pegged coins are usually used in other trades.
However, providing liquidity on Curve Finance remains highly risky. Stablecoin deposits also require gas fees when a user makes a deposit to provide liquidity. The pools of Curve Finance also vary in their yields, but it is not advisable to switch pools due to fees. This means Curve Finance liquidity providers are limited in their positions, and may need to lock their funds for a relatively long time.
Curve Finance works similar to other DeFi structures, immediately linking either MetaMask or other wallets to its vaults. All that is required is one transaction to lock the funds, and patience, as yields vary depending on the liquidity pool. The protocol’s trading pairs are also used as sources of pricing for other projects in the crypto space.
SushiSwap, is one of the most notorious cases in DeFi. Sushi appeared in the summer of 2020, immediately drawing in significant deposits. Then, the anonymous creator of the protocol, known as Chef Nomi, decided to cash out on his tokens, which led to an immediate price crash in SUSHI, the native token.
Afterward, following a lengthy social media exchange, Chef Nomi handed over the keys to the smart contract. Sushi holdings migrated to a new contract, and the project continues, regaining its community.
Sushi boasts of being an alternative to the Uniswap exchange, with a more user-friendly interface and features. As of November 2020, the liquidity within the protocol hovered around $529M.
The Sushi protocol uses MetaMask and WalletConnect to generate liquidity. The SUSHI token can be migrated from Uniswap into the native SushiSwap exchange. The protocol remains highly risky and volatile. Its chief attraction lies in the possibility of putting otherwise stagnant tokens to work and receive decent annual gains.
Harvest takes a different approach to decentralized finance. The project aims to build the first large-scale, fully crypto-based hedge fund. Harvest solves one of the disadvantages of DeFi - the difficulty of choosing the highest yield and the best project.
Harvest aggregates token deposits, and seeks out the highest yields. The simplest tool is to buy the FARM token, which can return yields from investments in various yield farming projects. Participating in Harvest means giving up the decision on which project to use for yield farming. The advantage is that there is no need to pay high gas fees to move funds.
Flash loans are a series of operations performed within a single multi-step transaction on the Ethereum blockchain. The Harvest attacker used a flash loan from Uniswap to manipulate the USDT/USDC pair on Curve. Because Harvest used Curve as a source of price setting, the protocol was vulnerable to rogue trades at a rate favorable for the hacker.
This exposed the FARM token to high-level volatility, showing that trusting Harvest was risky, despite the claims of security and safety. Flash loan exploits are still happening in the crypto space, and there is an ongoing effort to stop this possibility.
Vox Finance aims to offer a straightforward approach to staking rewards. The financial gains stem from locking in the VOX token. The token is available on Uniswap, the leading decentralized exchange, it is easily transferable through the MetaMask wallet, and can be deposited into a Vox Finance liquidity pool with just a few clicks.
The price of VOX is still in the discovery stage, after about a month of trading. Because VOX participates in trading pairs on Uniswap, there is incentive for users to provide liquidity and potentially boost its market price. To avoid dilution through the creation of new VOX, the project will apply limited token burns, and possibly decrease rewards in the future.
The goal of Vox Finance is to democratize investments, building a complete financial system based on crypto asset value. Its tokenomics are built so that “each individual can have the power to create, borrow, lend and earn money in a fair and decentralized manner.”
“Our vision is to connect yield-farming, staking, community governance, lending & borrowing and decentralized swaps all under one common roof - the VOX financial system,” said Jure, co-founder and CEO of the project.
Despite temporary setbacks, the collection of yield farming projects keeps growing. Funds locked in DeFi vaults and liquidity pools were in excess of $14B as of November, slightly declining after the markets turned red. The yield farming space is just one aspect of decentralized finance.
More projects aim to have a complete portfolio of products, while offering a user-friendly and efficient investment tool. Still, most projects specialize in one aspect of decentralized finance. Their various models - lending, exchanges, derivative trading and liquidity pools - combine to offer risky gains.
The biggest risk of yield farming and crypto lending remain various attacks, as well as rapid price fluctuations and liquidations. Still, yield farming and liquidity mining are here to stay, as long as exchanges like Uniswap offer algorithmic exchange rates for crypto pairs. The formula of price discovery based on the available liquidity of assets helps build a larger ecosystem of projects, which are optimistic for wider adoption in the coming years.