In the world of financial technologies, DeFi, or decentralized finance, is a fast-growing branch of the blockchain and crypto industries which is considered the next generation of financing.
As both the interest in DeFi solutions and their number have been steadily growing, in this article, we’ll give our insights into what decentralized finance is and why applying it may be highly beneficial for your business. You’ll find it useful whether you’re considering building/using a DeFi product or you’re just being curious about what this fuss is all about.
So, let’s start with the basics…
What Is DeFi?
In its broader meaning, decentralized finance is a financial system that offers financial services based on smart contracts – automated enforceable agreements that use no intermediaries (like banks, lawyers, or any other third party) to deliver them.
More specifically, DeFi covers thousands of such blockchain and cryptocurrency projects as decentralized applications, digital assets, protocols, smart contracts, and more.
Basically, DeFi projects do everything that traditional financial services can do, but without the necessity to interact with intermediaries (we’ll talk on other pros of using DeFi a bit later, keep on reading ;)).
As most DeFi applications are built on Ethereum (the world’s largest cryptocurrency platform, right after Bitcoin), this automatically ensures its ability to conduct transactions in a very secure, transparent, and trustworthy way.
Types of DeFi Services and Products
Now, that you know what DeFi is, it is time to look at what specific services and products DeFi can provide you with:
✔Cryptocurrency trading on decentralised exchanges (dexs) – non-custodial automated peer-to-peer platforms for buying/selling cryptos. There are hundreds of defi crypto exchanges nowadays, like Uniswap, dYdX, 1inch, OpenSea, AirSwap, Atomex, Bancor, Bisq, DEX.AG, Curve, DDEX, and many more, that enable you to buy/sell cryptos as well as may provide you with additional services (like lending, market analysis tools, etc.).
✔Borrowing and lending of cryptocurrencies, using the corresponding platforms – open lending protocols built on top of blockchain that use smart contracts to replace banks. The most popular lending platforms include Compound, Aave, Maker, InstaDApp, Dharma protocol, KittieFight, and others.
✔Betting on the predicted outcome of future events (such as elections, sports games, and more), using decentralized betting platforms, such as Augur, Kryptium, Bethereum, BetProtocol, BetrBet, DECENT.bet, Peerplays, and more.
✔Creating and/or trading of derivatives. You can try to build your synthetic assets/derivatives on Uma or – what is more common – trade derivatives, like futures and options contracts, on such platforms as Binance, Futureswap, Poloniex, FTX, Kraken, Prime XBT, and others.
Apart from that, you could create and exchange synthetic assets tied to real-world assets, like currencies and precious metals, by using Synthetix
✔Vaults/strategies. Vaults (such as yEarn) are funds supported by the yEarn community that assists you in finding the best strategy for investing in different DeFi protocols. The decision on the strategies is realised through voting on best proposals. Vaults can cover supplying collateral, taking yields from one protocol and investing them in others, borrowing and reinvesting stablecoins, and more.
On the Set platform, you can realize any chosen portfolio strategy, by using Sets – digital assets that represent a fully collateralized portfolio of different assets (e.g. Bitcoin, Ethereum, and the DAI stablecoin). These Sets automatically manage multiple assets of your portfolio and rebalance it.
The Alpha Homora protocol that offers different yield farming pools helps leverage your position in the chosen yield farming pool. By using its tools, lenders can earn high interests on ETH, and yield farmers can be provided with high farming APY.
✔Buying/lending of stablecoins – cryptocurrencies that are linked to a specific value – a currency (fiat money), like the dollar or euro, a precious metal, like gold or silver, or a commodity (like oil) for the purpose of stabilizing the price. DAI, Ampleforth, Augmint, DefiDollar, Digix, EOSDT, Gemini Dollar, HUSD, Money on Chain, TrueUSD, and others belong to stablecoin platforms.
✔Issuance of tokenized assets on special tokenization platforms that offer the framework and tools to create tokenized securities. ERC-1404, Harbor, Neufund, Polymath Network, Securitize, or Tinlake are among them.
✔Insurance, by using blockchain-based decentralized solutions, like Etherisc, Nexus Mutual, or Opyn that, thanks to their smart contract functionality, offer more benefits to a typical insurance agreement.
Why Choose DeFi Instead of Traditional Finance?
DeFi has a number of great advantages that outweigh the ones of the traditional financial system in terms of effectiveness. To illustrate this, we’ve analyzed the top nine pros of using DeFi. Let’s take a look at them:
Decentralization and Full Control of Your Assets
As the name suggests, this is the main feature that lies at the core of DeFi. Contrary to the traditional financial system, DeFi is not centralized. This means all power and responsibility to manage the flow of your cryptocurrencies belong to you.
Besides, this also eliminates the need to pass control through banks and other financial institutions. Although currently, many banks promise to provide you with more control over your funds, they still manage your assets. DeFi, on the opposite, is non-custodial. Thanks to the fact that you use a private key, this allows you to fully manage your money the way you want, with no third party in the middle.
High level Of Trust, Security, and Privacy
In traditional insecure finance, you have to confirm your identity whatever transactions you make. Besides, when asking for a loan, the borrower needs to prove the lender they are capable of repaying the debt.
In decentralized finance, on the contrary, everything is about mutual trust and privacy. The anonymous status enables you to make any transactions with no confirmation of your identity, successful credit history, and other things that traditional financial institutions may require you (besides, no one will refuse you if your credit history is not perfect).
The DeFi data on all transactions is available to all the public – something that traditional financial institutions can’t offer to its clients. Based on blockchain, the DeFi system enables recording and verifying of transactions, as well as other information, so that everyone can see them. Thanks to this transparency, you can easily track whatever you want. This not only allows you to make sure your transaction has been conducted properly, but also helps investors check that the money they’ve invested is spent on the agreed things.
No Need to Ask for Permissions
Apart from being highly private and trustworthy, the DeFi system doesn’t require you to pass many steps of the authentication process before you access it. To participate in financial transactions, you don’t have to pass the KYC check and do other time-consuming identity authentication activities. You can create/send/buy/sell/borrow/do anything you need as soon as you enter the market.
As we’ve already mentioned, the traditional financial system presupposes banks acting as third parties to regulate financial procedures. With this in mind, they impose restrictions on people with low income/residents of developing countries to access their financial services. As a result, millions of people are remaining unbanked nowadays.
With DeFi, this problem has been eliminated. You can access the market from any location, regardless of your status, and anytime you want.
Another great advantage of DeFi, that the traditional finance can’t afford, is its huge tradability opportunities. Thanks to the blockchain technologies, literally any asset can be tokenized and then traded, from goods and precious metals to shares, real estate, intellectual property, a brand’s recognition, or even time. This potentially creates more space for trading and opportunities to make the deals that have not existed before.
Faster and Cheaper Transactions
Contrary to centralized finance, doing DeFi manipulations is really fast. Thanks to the smart contracts DeFi is built on, all transactions are automated. This reduces the time you spend to make a transaction as well as to close the deal in general.
Besides, thanks to the absence of the administrative burden that influences the cost of the traditional financial transactions, the DeFi transaction fees are lower.
In terms of the Covid-19 pandemic, the traditional financial system has turned out to be less prepared for the challenges regarding the smooth organization of the 3rd-party-client communication processes. Since in some cases, centralized systems are based on the direct communication with their users, the former may be potential centers of the virus spreading. With decentralized finance, everything is more than safe – there is no need to directly contact other people whatever operation you’d like to have conducted.
All DeFi protocols are open source. This is a huge advantage that allows any developer to create new financial solutions on top of blockchain. This way, developers from all over the world can collaborate and add value to the existing DeFi system, by building more scalable, secure, and efficient decentralized products.
As any new industry, the DeFi technology is kind of experimental, with its challenges and problems which are still being discussed to deal with.
Onboarding people to DeFi may be challenging as it requires specific knowledge. Due to its scalability issues, it may take much time to process all transactions if there is high transaction activity within the network. Besides, even if it’s highly secure, it doesn’t eliminate the possibility of a flaw occurrence within the system.
However, the decentralization, privacy, and a way higher level of security it brings as well as the potentialities it opens up to us are much more valuable, attractive, and promising than what we’ve got from the old-dated, insecure, and limited in use traditional financial system so far.
The adoption of DeFi and development of DeFi products have been lately on rise which means more great technical and business opportunities are yet to come.
At FutureBlock, we organize regular online meetups devoted to sharing DeFi knowledge among our network members. If you are willing to join our DeFi Evenings (as an attendee or a speaker) too, feel free to contact us.