the highs and lows of passive income from DeFi

everyone is talking about cryptocurrencies these days. it is possible that FOMO got the better of you and now you’re the owner of a bunch of crypto tokens, waiting for them to rally to the moon. but have you wondered what else you can use these tokens for?

don’t worry. the crypto community has been trying to build applications that can leverage and complement the underlying properties of public blockchain networks and also help you generate some passive income from the tokens you hold.

understanding DeFi

in recent years, decentralized finance or DeFi has become one of the most popular applications built on top of these decentralized networks.

developers deploy smart contracts on top of peer-to-peer (P2P) public blockchain networks like Ethereum and try to build financial products around lending, borrowing, derivative trading, etc. these are inherently decentralized in nature unlike their conventional counterparts in traditional finance space, which heavily depend on trusted-third parties.

holders of certain tokens can earn certain rewards for being a part of various DeFi applications. for example, one could be a part of DeFi platforms that provide loans to individuals across the world in a trustless manner. lend their tokens to others so they can borrow and get rewarded a certain interest amount for their participation and bring liquidity to the lending pool.

this has led to an exponential growth in the use case of Defi products.

year-to-date, the total value locked (TVL) in DeFi products has gone from $21 billion to ~$300 billion, as per Defi Llama.

depending on the token being staked and the network being staked on, one can earn a return of as low as 3% to as high as 17%. this has especially made DeFi a popular product in low-interest-rate regimes.

invest, but with caution

but Defi applications entail a significant amount of risk as well. in the last year, we have seen that these Defi smart contracts are not as secure as the underlying blockchain they are built upon and have become an easy target for hackers.

a report by AtlasVPN states Defi related hacks accounted for 76% of all major hacks in 2021.

while Defi may have a lot of potential to disrupt traditional finance products, one should stay cautious and acknowledge the fact that this is still an idea in its infancy, where more is unknown than known.