During the early days of blockchain technology, emphasis was excessively placed on the community and its capability of developing blockchain networks. Nonetheless, the arrival of Ethereum changed the blockchain game dramatically, allowing developers to create decentralized apps. Ethereum’s tokenization and innovative contract capabilities sparked discussion about traditional finance’s next step.
Blockchain technology has disrupted the financial sector in recent years. With another wave of innovation, the world witnessed the rise of DeFi, and top protocols for DeFi gained popularity. How does DeFi work, and what are the protocols? Why?
Decentralized Finance (DeFi): Definition
Decentralized finance (DeFi) technology is a new financial technology based on distributed ledgers similar to those used in cryptocurrencies. Banks and institutions no longer control money, financial products, and financial services.
Understanding DeFi protocols requires understanding the definition of decentralized finance. Peer-to-peer financing, also known as decentralized finance, refers to the transition from conventional, centralized financial systems to peer-to-peer funding. In addition to tokenized digital currency and stablecoins, the DeFi ecosystem has successfully created a lending and borrowing platform. Over time, the DeFi landscape has evolved into a massive network with integrated financial instruments and protocols.
Defining DeFi protocols
There has been a tremendous growth of the best DeFi protocols in the past two years. In 2020, DeFi’s assets reached a value of over $12 billion, making it one of the most promising years for the company. DeFi protocols are specialized autonomous programs that have been designed to address issues related to the traditional finance industry. The DeFi protocol aims to change this situation for more than half of the world’s population without access to a bank account.
The development of DeFi protocols will enable the introduction of more financial instruments. By now, many DeFi protocols have formed an integral part of a complex ecosystem with numerous notable tokens and projects. Due to the substantial rise in the value of DeFi protocols, startups in this area see opportunities.
A nascent industry with access to a huge financial market could soon be on the verge of tapping into more than 50% of the world’s population without a bank account, and venture capital firms are taking note. Various projects have accrued hundreds of millions of dollars in funding, and the industry contains over $9 billion in locked assets.
In addition to offering lending solutions, these projects create liquidity between multiple blockchains and create on-chain assets such as stocks and shares to encourage cryptocurrency adoption.
Many potential risks are associated with the space since it is still in development. This article will discuss some of the significant projects in space, their purpose, their financial backing, and their weaknesses.
DeFi Protocols And Their Importance
To reflect on a DeFi protocols list, it’s essential to have a technical understanding of the same. The protocol is defined as rules or standards that govern a specific task or activity. DeFi protocols may include rules and principles aligned with real-world institutions for industry participants.
Blockchain technology allows for increased financial security and transparency, opening up new liquidity and growth opportunities and an integrated and standardized economic system through decentralized finance.
Smart contracts are highly programmable and allow for the creation of new financial instruments and digital assets.
The decentralized architecture provides tamper-proof data coordination, enhancing security, and audibility.
Integrated information exchange
With Ethereum’s composable software stack, DeFi protocol and applications are constructed to be integrated and complementary. Utilizing DeFi, product teams and developers can build on top of established protocols, customize interfaces, and integrate third-party applications. These reasons account for the nickname “money Legos” given to DeFi protocols.
Every transaction on the Ethereum network is broadcast to other users and verified by them. Ethereum addresses are encrypted and pseudo-anonymous keys. In addition to providing rich data analysis, this level of transparency about transaction data also makes network activity available to anyone. Also, Ethereum and the DeFi protocols running on it have open-source code that can be viewed, audited, and developed by anyone.
By contrast with traditional finance, DeFi is defined by openness and permission-lessness, anyone with a crypto wallet and an Internet connection can access DeFi applications built using Ethereum regardless of their geography.
Participants in the DeFi market always retain ownership of their assets and control their data by interacting with permissionless financial applications and protocols using Web3 wallets like MetaMask.
Describing DeFi’s Workings
Cryptocurrencies use blockchain technology for decentralized finance. Blockchains are distributed and secure databases. Transactions and blockchain operations are handled using decentralized applications (dApps).
Each blockchain block contains information about a transaction verified by other users. Upon agreement among these verifiers regarding a transaction, the block is closed and encrypted; a new partnership is created with information about the previous block within it.
The information in each successive block is linked together to form the blockchain, hence its name. It is impossible to change information in previous blocks without affecting the following blocks, so a blockchain cannot be altered. Together with other security protocols, this concept contributes to its substantial secure nature.
Using your decentralized finance application, a DeFi application will match you with peers that meet your loan needs (dApp). A lender’s terms would then need to be agreed upon, and the loan would be processed.
Blockchain records transactions, but you don’t receive your loan until the consensus mechanism has verified them. The lender can begin collecting payments from you at the agreed-upon intervals. Whenever you make a payment via a dApp, the payment follows the same procedure on the blockchain; the funds are ultimately transferred to the lender.
DeFi is a cryptocurrency-based payment system. The concept focuses on stablecoins, cryptocurrencies backed by an entity or tied to fiat currency like the dollar. Since the technology hasn’t yet been fully developed, it’s difficult to say how existing cryptocurrencies will be implemented, if at all.
DeFi protocols are primarily designed for borrowing and lending applications in the financial sector. At the end of February 2021, the value of the assets in the DeFi ecosystem was estimated at $40 billion. There is no doubt that this is one of the main reasons for learning more about top DeFi protocols and their capabilities. Nonetheless, it is also important to point out that the DeFi ecosystem is still under development, and many of the projects have significant risks. Now let’s look at a few of the DeFi protocols that can help you get to know DeFi better.
In the DeFi landscape, Ave is one of the most popular and leading lending protocols. Besides providing security for the protocol, it also enables users to participate in its governance with the native token AAVE. Users can stake AAVE tokens through the Safety Module to achieve AAVE rewards.
Another top mention goes to yEarn, among the best DeFi protocols. There are several options for yield farming available through this automated liquidity aggregator. YFI, yEarn’s native token, handles governance of the protocol. Users could stake YFI tokens to participate in the protocol governance and to claim a pro-rata share of the protocol fees.
The UniSwap protocol is also one of the leading DeFi protocols today. As of right now, it is the most popular decentralized exchange in the DeFi space. Offering liquidity to certain pools allows users to earn UNI, the native token. Uniswap will offer 15% of its supply to previous users starting in September 2020 by introducing the “Universal Basic Income” program.
Following Synthetix, the following notable protocol on this list would be DeFi. The protocol has its native token, SNX, making it one of the most prevalent derivatives protocols. Synths, which are new derivatives to be minted, are staked to at least 750% with SNX tokens. Known as the cRatio, this ratio lets users earn native inflation along with a share of trading fees.
Without mentioning Compound, the leading lending protocol, it is impossible to develop a list of DeFi protocols. With the protocol, users can access a native token called COMP, which can be earned by lending or borrowing assets. With the Compound Governance Dashboard, COMP helps with the governance of essential protocol decisions, with flexibility in voting and delegation.
Decentralized exchanges, such as Kyber Network, can capture value through native tokens, making them another excellent example among top decentralized exchanges. Known as Kyber Network Crystals or KNC, the native tokens on Kyber Network are called Kyber Network Tokens. KNC token owners gain voting and delegation rights over crucial decisions such as introducing governance mechanisms by leveraging their token ownership.
The Sushiswap project is an Automated Market Maker (AMM) and lending protocol that uses the SUSHI token as a governance token. By providing liquidity to chosen pairs on Sushiswap, liquidity providers can earn the SUSHI token. Users could stake SUSHI tokens using the Omaske bar to earn protocol fees and issue protocols.
Among the most prominent decentralized lending protocols is the maker. Adding maker to the list of DeFi protocols would be the next logical step. The Maker DeFi protocol creates DAI, which is its most striking feature. Maker’s native token, MKR, can assist in voting on protocol decisions through the Maker voting dashboard.
Among the most popular DeFi protocols in present times, Balancer is among the most notable and common mentions. Through its native token, Balancer DeFi enables automated asset management and liquidity with the convenience of governance. As part of the BAL native token, crucial protocol aspects such as supporting assets protocol fees are governed.
In addition, Numeraire is also included on the list of DeFi protocols of renowned status. The fund uses AI-based strategies to create the Erasure protocol, which helps predict future outcomes. By investing NMR tokens in the prediction protocol, users could display their confidence in the expected results.
Aside from Project Serum, DeFi protocol, in general, is one of the most important in current times. The DEX, or decentralized exchange, is one of the newest additions to the world of cryptocurrencies. The unique highlights of Project Serum refer to the fact that it is entirely permissionless and has not been developed on Ethereum.
DPI, or DeFi Pulse Index, is a community governance index management protocol underpinning Index Cooperative DeFi. By using the native INDEX governance token, indexers can determine the content of their indexes. Additionally, it helps determine how to use the indexes in meta-governance for associated protocols.
As one of the leading DeFi protocols of the modern era, Curve also makes a name for itself. It is a liquidity aggregator for assets with the same peg, such as Bitcoin wrappers and stablecoins. The Curve DAO allows users to stake the native token of the Curve protocol, CRV, for efficient time-weighted governance. Additionally, users can earn liquidity multipliers by mining CRV liquidity.
An essential element of the DeFi liquidity protocol is the ability to funnel liquidity across multiple types of exchanges. Users might be able to govern the protocol using ZRX. Furthermore, Market Makers can also stake ZRX for obtaining trading fees. The 0x protocol would also appear on the list of best DeFi protocols for its unique functionalities.
Ren Protocol is another of the most renowned DeFi protocols in the current era. The protocol provides an interoperable way for assets to be transferred to Ethereum. Those who wish to host dark nodes on the network must secure 100,000REN to qualify as validators.
Additionally, PieDAO would be considered one of the most promising DeFi protocols. PieDAO provides asset management with automated capabilities and accessibility to various DeFi indexes. There are currently many liquidity mining programs available for earning DOUGH, the native token of PieDAO.
DeFi protocols with innovative functionalities include Alpha Finance as well. It has the function of aggregating yield farming techniques for Alpha Homora, which lends idle Ethereum for farming on leverage. The most striking feature of Alpha Finance is the provision of a portion of the yield to the community treasury.
Nexus Mutual is a platform that permits users to issue Nexus Mutual tokens for ETH deposited in the Capital Pool in exchange for Nexus Mutual tokens. By making it possible to issue Nexus Mutual tokens for ETH deposited in the Capital Pool in exchange for Nexus Mutual tokens. Members can engage in different contracts to collect a specific share of the profits earned from cover purchases. Additionally, Nexus Mutual plans to introduce pooled staking to enable the allocation of all purchased covers to users who stake their NXM tokens.
A native token (also known as UMA) serves as a governance mechanism for protocol decisions and substantial major challenging underlying registries that aren’t aligned with related synthetic assets.
As another protocol with innovative potential, UMA could also be added to the list of DeFi protocols. In addition to allowing the development of permissionless synthetic assets, UMA also acts as a derivatives protocol.
The mStable protocol is another popular choice among DeFi liquidity aggregators. The protocol’s native token, MTA, was offered as part of an Initial DEX Offering, and users can stake MTA through the Earn functionality. Staking the MTA token could allow holders to claim protocol fees and claim inflation on the MTA. A standard has been developed for tokens referred to as mASSETS or mUSD pegged to the same currency.
Last but not least, we can see that DeFi’s ecosystem of open standards would continue to grow. Decentralized exchanges (DEXs), liquidity aggregators, and margin trading platforms. Additionally, asset management platforms and lending platforms are using DeFi protocols. The many use cases presented by DeFi protocols in the financial sector are truly revolutionizing traditional financial sector norms.
DeFi protocols will continue to evolve, yet caution must also be taken regarding their progress. The news is full of new DeFi projects every day, no doubt about that. On the other hand, it is also vital to determine the possible areas where DeFi protocols may be out of line. There are risks and flaws in DeFi protocols, such as a lack of decentralization.