The emergence of blockchain technology and bitcoin has brought about great revolution in many aspects of our lives. Every new day comes with unimaginable ways this new technology can be applied to make things easier and better for us. Few years ago, blockchain technology was just centered around bitcoin and other altcoins. Today, blockchain technology is the hottest topic in almost all the sectors, especially, the financial sector. This technology has brought numerous improvements in the financial industry. The latest application of blockchain and bitcoin in this sector is Decentralized Finance (DeFi), which is the central point of this article.
What is Decentralized Finance (DeFi)?
DeFi is a protocol that promises a new financial system that is censorship-resistant, open to everyone and doesn’t require intermediaries to run. DeFi relies on features like cryptography, blockchain and smart contracts to achieve a trustless and permissionless ecosystem.
This is unlike our conventional financial system in which are fully centralized. Smart contracts are the fundamental building block of DeFi and majority of all the DeFi projects so far are built on top Ethereum Smart contract.
DeFi or decentralized applications (dApps) can be used to provide all the financial services offered by our conventional financial institutions, but it eliminates the need for a third party and offers financial inclusion to everyone because it is an open source. The concept has gained so much popularity, that about 4 billion US dollars are locked on DeFi platforms, according to defipulse, as at the time of writing this article. There are numerous services that are obtainable in the ecosystem. A number of them would be discussed in this article.
Lending and Borrowing Platforms
Lending and borrowing are important services the financial institutions provide. DeFi provides decentralized lending platforms which make loans available for anybody without the need for an intermediary. The DeFi lending protocol ensures that anyone with a stake in a lending platform, earns interest on supplied stable coin or any other cryptocurrency. Compound is currently the biggest DeFi platform in this category. Compound (COMP) is an algorithmic, autonomous and interest rate protocol that offers users the opportunity to earn interest by supplying assets like ETH, BAT, USDT or 0X. On this platform, lenders earn interest while borrowers pay interest. Supplied assets can also act as collateral for borrowing other assets in the COMP protocol.
Smart contracts can be used to create a stable coin that is pegged to the US dollar. This gives one the opportunity to own an asset with a US dollar equivalent, without having to store US dollars in the real sense of the word. Most DeFi projects often pay dividends to their users, with stable coins. MAKERDAO is a popular DeFi project in this category. This project provides a platform where users can lock in collateral such as ETH and receive DAI as a reward. DAI is a stable coin which can also be used for savings on the OASIS platform.
Decentralized Exchanges (DEXes)
Decentralized exchanges allow exchanging of cryptocurrencies in a completely decentralized and permissionless way. This simply means that a user can offer his or her cryptocurrency asset for trade on an exchange, without giving out the custody of the assets to the exchange. This can reduce the risk of losing one’s asset to exchange hackers. Examples of decentralized exchanges are: Bancor, Uniswap, IDEX, etc.
Derivatives are contracts that derive their value from the performance of an underlying asset. Synthetix is the main DeFi application in this category. Synthetix is a derivatives liquidity protocol that provides on-chain exposure to different assets. Synthetix makes possible, the permissionless creation of assets which derive value from the performance of real-world assets. Other DeFi platforms in this category include: Augur, dYdX, Swap Rate, etc.
Margin Trading Platforms
Margin trading is the practice of increasing a position in a certain asset by using a borrowed fund. The big DeFi players in this space are dYdX and Fulcrum.
DeFi projects in this category provide certain guarantees of compensation, in return for the payment of a premium in a decentralized and permissionless form. The major application of insurance in the DeFi ecosystem is the protection against smart contract failures, loss of private keys, loss of assets to hackers and protection of deposits. The leading DeFi project in this space is Nexus Mutual. On this platform, anyone can purchase an insurance via a risk sharing pool or contribute digital assets to the pool for future rewards. As a decentralized project, Nexus Mutual transfers the power from large insurance companies to the individuals in the sense that the mutual is owned and controlled by its members. Members can contribute ETH into the pool, in return for NXM which is its protocol native token. Other DeFi projects under this category are opyn, Etherisc,etc.
Decentralized finance (DeFi) has the potential of providing all the services we receive from our conventional financial institutions, in a decentralized and permissionless form. It is true that it is capable of disrupting the financial system which we currently operate. As such, it should be embraced in order to achieve equity, transparency and global financial inclusion.