Decentralized Finance (DeFi): Useful information on terms, facts and backgrounds
Decentralized Finance , or DeFi for short, is currently on everyone's lips. But what exactly is behind it? In this post you will find answers to the most frequently asked questions about this cutting-edge topic. Essential terms, applications and services are also explained in more detail. The focus is on the potential chances and possibilities that participation in DeFi projects brings with it.
Decentralized finance: what is it?
The English translation for Decentralized Finance is roughly decentralized finance , more precisely decentralized financial sector. In a nutshell, this is a generic term for the entire spectrum of conventional financial services that are not provided centrally, but decentrally, as in the traditional sense. Banks, insurance companies and stock exchanges, which are used in the traditional financial sector as The point of contact for all necessary services and transactions are now being replaced by a decentralized platform. This consists of a network of participants who are guided by a given protocol.
Roughly speaking, DeFi is therefore a product of today that addresses the needs of an increasingly digital and global society. Accordingly, it offers a technological solution for the international financial market.
While decentralized finance is already widely known in crypto trading, it is still a relatively young phenomenon in other areas. In view of the global development towards even greater digitization in the service sector, however, a continuous spread of DeFi in the financial sector can be expected in the future. The basis for this is provided by the so-called Blockchain. You can find out exactly what this is all about in the following paragraph.
1. Blockchain as the foundation of decentralized finance
A Blockchain is a distributed, public database. In connection with crypto currencies such as Bitcoin and Ethereum it is primarily used to manage financial transactions. The term "chain" is due to the fact that all processes are in chronological order attached to the existing chain.
The list of advantages that this modern form of the database brings with it is undoubtedly led by the comparatively high level of protection against forgery and manipulation . The focus is on the forgery-proof transmission of information via a distributed register, known in English as a distributed ledger. This is achieved using progressive and continuously optimized cryptographic processes such as digital signatures or hash functions.
Experts assume that a blockchain provides more security than conventional databases.
As already indicated, blockchain applications are still in their infancy. However, they are already being used successfully in many areas such as the gold and diamond industries. Others are still pilot projects. In the crypto industry, on the other hand, together with the decentralized financial sector as a whole, they prove to be a valuable asset, which, in addition to faster, more uncomplicated and more secure processing of financial transactions, also offers attractive earning opportunities.
2. A brief introduction to smart contracts
In the context of decentralized finance & Co., the so-called smart contracts based on blockchain technology, in English "intelligent contracts" , should not go unmentioned. The characteristic feature of this contract variant based on computer protocols is its purely digital version. Specifically, this means, among other things, the definition of the individual contractual conditions and agreements between the respective contracting parties in the form of lines of code.
In practice, interested parties can currently find numerous applications and providers of smart contracts, especially on the Ethereum blockchain. Since these completely replace all manual and human transactions, the query and confirmation of purchases over the Internet is one hundred percent automatic.
Basic information on decentralized applications (dApps)
Decentralized applications are used to adequately display services on a digital level that are familiar from conventional finance. One example here is the granting and use of loans. The motivation of many users is to make money with the DeFi applications. The so-called Token usage. In a nutshell, a security token or chip key is a hardware component that is used to identify and authenticate users.
1. Open source, practical & easy to use: General information about dApps
At this point you are probably asking yourself the legitimate question, what exactly is participating in a DeFi application like? Are there prerequisites such as special IT skills? What else should you watch out for?
The good news is that using the decentralized applications is very easy. No special IT skills are required. Furthermore, the provision as an open source solution ensures that the switch to Decentralized Finance is possible for everyone.
Everything you need for the successful handling of your financial matters via DeFi is a stable internet connection, a device and a wallet for the "means of payment", i.e. the tokens, in the technical jargon Wallet called.
At this point it shows once again that this is a decentralized application without a central point of contact, in this case a storage location. In other words, this means that you as the user are responsible for keeping the tokens in safe custody. The tokens can be transferred to a DeFi platform via the MetaMask wallet, among other things. To do this, a cryptocurrency , usually ether, must be downloaded to the wallet.
2. DeFi applications in detail: the most important options at a glance
Lending, Staking, Liquidity Mining, Yield Farming, DEX & Stable Coins: For newcomers to the DeFi area, the multitude of new applications and terminology may be overwhelming. Accordingly, this paragraph is dedicated to the quick clarification of the most important components in the decentralized financial sector.
A child's play of lending via decentralized finance: This is what the name LENDING means. The role of the classic credit representative, usually a financial company, is now taken over by the technology that checks the liquidity and collateral of the respective borrower and grants or denies a loan depending on the result. In a narrower sense, LENDING in Decentralized Finance therefore differs little from traditional lending. The advantage here, however, is a much faster process.
The so-called BORROWING, i.e. lending, describes the free provision of a loan. In this case, too, the blockchain proves to be the ideal intersection to bring together people who want to use this service and payers.
A popular and comparatively uncomplicated source of income in the DeFi sector is the so-called STAKING . Compared to conventional, more complex mining, stakers provide their crypto currency and benefit from the interest income received for it. The amount of the expected reward, i.e. the participation in the settlement volume, can be viewed on the page " Staking Rewards " will be.
2.4. YIELD FARMING
As YIELD FARMING the possibility of regular interest income with DeFi is called. Successful yield farming requires the knowledge and application of targeted strategies such as the provision of loans and the creation of crypto currencies.
2.5. LIQUIDITY MINING
Another popular option to earn money in DeFi is in the form of so-called LIQUIDITY MINING . Similar to staking and yield farming , your own cryptocurrencies also play a central role here. In detail, these are invested in a pool at Liquidity Mining and a DEX (decentralized exchange) made available. The term "liquidity" arises from the fact that the respective miners give the network the required solvency or liquidity in this way.
Of course, the DeFi area should also include so-called decentralized exchanges, or DEX for short . The lack of a central instance, which often offers vulnerabilities for hackers, is a guarantee for additional security. Trading in cryptocurrencies such as Bitcoin & Co. is consequently direct, transparent and efficient. In summary, decentralized exchanges are a particularly secure alternative to the traditional counterpart.
2.7. STABLE COINS
In addition to a wealth of advantages, cryptocurrencies also bring some challenges and risks with them. At the top of the list is the high susceptibility to fluctuations. Stable Coins prove to be a stability factor that should not be underestimated thanks to the delivery of precise images of, among other things, comparatively strong currencies such as the euro and the US dollar.
Potential sources of income in the DeFi sector: opportunities & risks
It is well known that it is better to be safe than sorry. When it comes to the DeFi sector , it can certainly be said without exaggeration that there is an infinite number of earning opportunities slumbering here. Especially in the area of lending, i.e. the depositing and lending of tokens, users benefit from high returns. Larger investments should, however, be avoided until you are a little more familiar with the crypto market or are not afraid of the correspondingly higher risk, i.e. have a high financial budget. A distribution of your investment capital over several protocols is particularly advisable if you are not prepared to take greater risks.
If you want to make money particularly quickly, you should take a closer look at the Yield Farming , which has already been briefly described. After all, this offers realistic prospects for particularly high returns. Combined with Liquidity Mining , additional, even greater profits can be achieved in the ideal case. However, since this is less about empirical values and more about risky speculation, especially at the beginning it is only advisable to make smaller, manageable investments of amounts whose potential loss you can get over.
The decentralized financial market under cross-examination: a final consideration
Since DeFi is a very young and constantly changing sector, it is hardly possible to give a satisfactory rating. It remains to be seen future developments and reports from users regarding the use of DeFi applications.
In summary, however, it can be stated here that the DeFi sector has a number of advantages apart from the listed risks. These benefits not least of all for a mobile clientele for “time is money” and, to a greater extent, in an increasingly digitized society. Accordingly, the decentralized financial market scores with uninterrupted deployment and usage that is not tied to regular opening times.
As a result, important banking transactions can be carried out around the clock every day from a device equipped with an Internet connection. In addition, there are no access restrictions such as an active bank account like in traditional banking. Fast and efficient processing thanks to the high level of automation, above-average return prospects as well as maximum transparency and security are further clear advantages.