Liquidity Pool vs. Staking: Which Is Better?
What Is a Liquidity Pool? A liquidity pool is an algorithmically defined storage of assets that facilitates the exchange of tokens on DEXs without a central entity. Cryptocurrencies in liquidity pools are locked in smart contracts and released when users trade using the exchange. Users of decentralized exchange do not trade directly with each other. They trade with liquidity pools by adding one token and taking out an amount of another token. When there is a discrepancy in the price, arbitragers quickly spot the opportunity and buy tokens from other DEXs or centralized exchanges for resale. Even though this happens often, the token price in the pool may be different from the price on a centralized exchange. Hence, DeFi researchers often talk about impermanent loss. The pool may rebalance and bring the price back to an equivalent amount on other exchanges. Most of the funds in liquidity pools are provided by liquidity providers who profit from tokens issued as rewards from the fees paid to the DEX by traders. Liquidity mining or yield farming is the supply of assets to pools to earn mining rewards. What Is Staking? Staking allows holders of DeFi tokens to earn passive income by leaving them with validators on the platform in exchange for the rewards distributed on the network for transaction validation. We can call staking the time deposit of DeFi because it often attracts an APR or APY, which is paid for by leaving the funds for a fixed period. While the funds are locked, the staker can earn and claim the rewards whenever they wish. These rewards are usually accessible from the user wallets and can be compounded by staking, an option that pops up whenever the user tries to claim tokens. Validators on proof-of-stake networks use the funds staked to validate transactions and ensure the security and integrity of their respective blockchains. BSC, Polkadot, and Cosmos are examples of networks that pay users for staking their tokens. Which Is Better? One major difference between staking and yield farming is that the latter pays higher rewards of up to thousands of percentages in APY. During the Olympus DAO era, some protocols paid as high as a trillion percent in APY. Such numbers are unsustainable, and the respective projects have since crashed significantly. Most projects try to pay as much as possible to liquidity providers on DEXs to build their community. Those who profit most from liquidity mining are the ones who joined on time. Others who came in the end may experience some risks if the platform suddenly stops gaining momentum. It is also advisable to store rewards in stablecoins to minimize losses. While yield farming is great and can be highly profitable, staking has more upsides, especially if the token staked is one of the blue-chip crypto assets like Ethereum or Polkadot. The APY for these tokens is low, and you must meet the minimum staking requirements, which is a bit of a barrier to entry.
Asked 4 months ago
How Do You Farm Cryptocurrency?
Crypto farming can generate good profits for investors who have a risk appetite. You will primarily invest in startups and early-stage crypto projects that have the potential of yielding sizable profits, ranging between 1-1000% APY. However, yield farming is a risky investment. You are faced with the risk of impermanent loss. The value of your pegged assets might gain or drop anytime and impact your profits. Besides, you can be a rug pull victim when developers disown their projects and disappear with investor funds. Again, DeFi protocols are vulnerable to bugs, which bad actors can exploit. Generally, if you can bear the above risks and have a good stake, crypto farming will benefit you greatly. What to Consider Before Farming Cryptocurrency Here are five risks of yield farming you should consider before farming crypto: 1. Volatility Volatility is the degree to which asset prices fluctuate. The value of your assets may decline or increase while they are held in yield farms. 2. Fraud As mentioned earlier, yield farmers mostly invest in early-stage projects with little founder information or legitimacy. Crypto fraud and fund misuse accounted for the biggest percentage of the $1.9 billion in cryptocurrency crimes in 2020, according to CipherTrace. 3. Rug Pulls Since yield farming is a new concept practiced on decentralized protocols, some developers initiate projects, abandon them, and disappear with investor funds without a trace. Therefore, DYOR before investing your hard-earned money in any farm. 4. Smart Contract Bugs Yield farming leverages smart contracts that may be susceptible to bugs and hacking, exposing your assets to further risks. 5. Impermanent Loss The price of your crypto holdings can rise or decline during the lock-up period. These profits and losses become permanent after the lock-up period. When the losses exceed the yield, you may realize you could have been better off had you kept your funds available for exchange. How to Farm Cryptocurrency Providing Liquidity You can deposit token pairs on a DEX protocol to offer trading liquidity. The DEXs levy trading fees and pay a certain percentage to liquidity providers. Lending Here, you lend your digital assets to borrowers via a smart contract and generate a yield from the loan’s interest. Borrowing As a yield farmer, you can hold one asset as collateral to secure a loan. Afterward, you can use the loan to generate yield. You retain your first holding, which may gain value with time while farming yields on the borrowed tokens. Staking You can deposit cryptocurrencies to proof-of-stake (PoS) blockchains and earn staking rewards. Besides, you can still stake the rewards you earn to generate more profits.
Asked 4 months ago
How Do I Automate Yield Farming?
What Is Automated Yield Farming? The process behind yield farming is achieved by using the DeFi (decentralized finance) approach to give out crypto in a "farm"—which will then give you returns. Depending on the farm, yield farms can give a return of anywhere between 3-5% for big cryptocurrencies, up to massive returns. However, no big returns come without sizable risk. There are many risks of yield farming, this is why crypto enthusiasts have come up with innovative ways to go around it. One of the best ways to ensure that you're maximizing your profit and avoiding loss is with automated yield farming—a method that consistently gives you the highest returns and focuses only on holding profitable positions. How to Automate Yield Farming Many DeFi platforms have their own yield farms. For example, at PancakeSwap, the GMI-BNB farm offers a yearly 165% return, but by the time you read this, the farm's return has probably already changed. So, with automated yield farms, the goal is to consistently have your crypto in the best yield farms so that you can have the biggest yield farming profit. To automate yield farming, you first need to set up a hot wallet—a wallet that's always connected to the internet. Then, with a blockchain explorer and an EtherJS script, you can define a way that your crypto will always move to the yield farm with the highest APR.
Asked 4 months ago
What Is a Self-Generating Liquidity Token and How Does It Work?
Liquidity tokens, also known as liquidity provider tokens (LP tokens), are a key feature of automated market makers (AMMs) and serve as an incentive that encourages the protocol's users to contribute liquidity to its pool. They can be described as "self-generating" since the protocol creates them and issues them to users who provide it with liquidity. The concept of LP tokens has transformed DeFi and opened up new opportunities like yield farming. Liquidity is a fundamental concept that cuts across both DeFi tokens and platforms. It refers to the effortless conversion of one asset class to another. Decentralized exchanges and other DeFi protocols require liquidity to promote trading on their platforms. Liquidity tokens incentivize DeFi users to provide this liquidity and help enable the seamless exchange of tokens on the protocol. How Do Self-Generating Liquidity Tokens Work? DeFi protocols facilitate trading on their dApps through liquidity pools - a basket of various tokens. This liquidity pool is provided by the platform's users, who are rewarded with liquidity tokens. A liquidity token represents the liquidity provider's share of the pool. Before the creation of liquidity tokens, staking assets in DeFi had no other utility. Traders could lock up their tokens on a DeFi protocol and could not do anything else with it. However, with LP tokens as rewards, staking now has additional merit since it can generate convertible assets in the form of LP tokens that users can sell or stake on decentralized exchanges (DEXs) for more rewards. To get liquidity tokens/LP tokens, one needs to participate in a DeFi protocol or decentralized exchange that utilizes a liquidity pool. You can add liquidity to their pool by staking an equivalent token pair. For instance, if you provide liquidity for a DEX like Pancakeswap, you can contribute to their liquidity pool by staking an equivalent token pair of ETH/USDT. This means you are adding liquidity for Ethereum and the stablecoin, Tether. After you have selected the number of tokens you wish to add to their pool, you can confirm the transaction on your wallet. With this, you will start receiving liquidity tokens and trading fees reward for your contribution.
Asked 4 months ago
Yield Farming vs. Staking: What’s the Difference?
Defining the Crypto Generating Methods What Is Yield Farming? Yield farming is a broad term that refers to generating multiple layers of income on your crypto savings via DeFi protocols. Here, you're incentivized to add tokens to liquidity pools (LPs) governed by smart contracts. The DeFi protocols put these funds to better use, like lending and trading, and you get a share of the profit generated in exchange (sometimes LP tokens too). Usually, these returns are measured in Annual Percentage Yield (APY), which is the return you'll receive when taking compound interest into account as well. You can yield farm LP tokens to generate further returns. Arbitrage opportunities in DeFi markets are sizable too. Popular yield farming platforms include Compound Finance, Uniswap, Synthetix, Curve, and Aave. The returns depend on the yield farming strategy applied across different pools. Namely, yield farming returns are also calculated in APY, and the returns are denominated in the coins you'll be adding to the pool. What Is Staking? Staking allows you to generate income on your crypto holdings via a blockchain rather than a DeFi protocol. As proof of work (PoW) makes way for proof of stake (PoS) to reduce the environmental impact of running a blockchain, staking is gaining momentum. PoW requires all participants to validate a block, while PoS selects validators at random to generate new blocks. You need to stake your coins to be a validator. The higher your share of coins, the better your chance of getting selected and the higher the staking rewards. Security breaches on the network are disincentivized by severing access to the staked assets. Staking is also calculated in APY, and you'll earn the returns in the native token of the network. For example, if you're staking DOT on the Polkadot Network, you'll earn an approximate 10% APY in DOT. Differences Between Yield Farming and Staking The differences can be summarized as follows: In yield farming, you lock your funds in a DeFi protocol. In staking, you lock your funds in a blockchain. Yield farming facilitates liquidity, lending, and borrowing. Staking keeps a network up and running. Yield farming is prone to impermanent loss, smart contract vulnerabilities, and liquidity risks. Staking risks include long waiting periods for rewards and volatility risks. Yield farming opportunities are available on both native cryptocurrencies and stablecoins. Blockchain staking is limited to crypto coins. Of course, both methods have their own advantages and disadvantages, which we'll briefly cover below. DeFi Protocol and Blockchain When it comes to DeFi protocols, there are a lot of options you can go for regarding yield farming and staking. Namely, you can earn passive income on native cryptos like BTC and ETH, or stablecoins like USDT and USDC. This requires using "blockchain locks" which lock up your assets for a specific amount of time. After the smart contracts in blockchain end, you can "unlock" your tokens and access them. Consider that you might have transaction fees for yield farming that vary depending on the blockchain you're using. Yield Farming Returns Are Higher In most cases, yield farming gives higher returns than staking, primarily because it's more complicated and riskier. Staking is real passive income, so once you stake your coins on a protocol, you won't have to worry about them until they're unlocked—which is why the APY is usually lower. However, yield farming often requires you to move the assets from one pool to another and bear the potential security risks of the protocols. Level of Risk Both yield farming and staking are considered relatively safe as long as you do them on reliable protocols. Still, both of them have inherent security risks. Yield farming can cause impermanent loss (i.e. the price of a token falling after you deposit the tokens in a pool) and are prone to smart contract vulnerabilities. If you've placed your tokens in a protocol that later gets hacked, you could lose some or all of your tokens—which is one of the biggest risks of yield farming. In contrast, staking is slightly less risky, but the returns are smaller. You'll also have to wait for much longer (usually a couple of months) to redeem your rewards. Which Is Better for Long and Short-Term Crypto Investments? Both yield farming and staking are great ways to earn passive income. However, we wouldn't recommend yield farming for a long-term investment, because it's riskier than staking. Even though the APY for yield farming is better, the protocols can change how they function and what they do, thereby affecting your return. However, staking is a solid long-term investment option, since it doesn't even require you to do anything. Once you stake your tokens on a protocol, you don't have to do anything until the lock-up period is over. Therefore, we recommend yield farming for short-term returns and staking for long-term returns if you're goal is to grow wealth passively.
Asked 16 days ago
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