Click to learn more about author Hiral Rana.
Decentralized finance, or DeFi, emerged as a part of the crypto industry in 2013. As the name suggests, DeFi refers to peer-to-peer applications that allow crypto trading, loans among other services to take place digitally. Such applications follow a decentralized structure, relying heavily on blockchains.
In essence, they bypass the traditional financial intermediaries such as brokers and banks to provide a considerably hassle-free transaction process. Ethereum is considered to be the cornerstone of the protocols that are followed by DeFi applications. As of 2021, even after sharp drops in value, the DeFi market has been estimated to be worth $65 billion.
Make no mistake, the DeFi market is a fickle one. You would be risking a lot, but if you do it right, you could be looking at handsome returns. Here is a checklist to help you navigate the world of DeFi.
Do Your Research
DeFi is a relatively new avenue for people to explore and understand, so it is important to not just jump on the bandwagon. Before you step into the world of DeFi, do your research and understand what it is all about. Once you have a clear idea, you will be able to make use of DeFi protocols more profitably.
One of the major mistakes that new investors make is venturing into the world of DeFi trading and investments simply due to fear of missing out (FOMO). You need to vet the aspects associated with DeFi just the way you would with traditional financing.
During your research, you must also learn more about the various DeFi protocols such as Aave, Maker, and Compound so that you can choose one that you prefer. These protocols possess smart contracts with billions of dollars in value, and are the ones that you should be looking at.
Get an Ethereum-Supported Wallet
So, you have already conducted thorough research, and you are confident about forging in DeFi. The first thing you need to understand right away is that Ethereum forms the foundation of DeFi. The next thing to do is get a wallet that not only supports Ethereum but also allows you to explore DeFi protocols using your browser.
Crypto wallets are great for storing and managing your crypto funds. They store all your tokens and transactions for future reference. Not only this, but they can also allow you to lend, borrow, and earn interest directly from your wallet. Do some quick research on the best Ethereum wallets that provide these features and an easy interface for carrying out DeFi transactions.
Alternatively, consider transacting through crypto exchanges or crypto banks, but for relatively new investors, crypto wallets are easy to navigate and understand.
Pick a Coin to Transact With
Once you have your wallet ready and set up, it is time to pick the coin that you want to carry out your DeFi transactions with. You need to ensure that you purchase the relevant coin that aligns with your chosen DeFi protocol.
Most DeFi protocols that are active today are based on Ethereum, as mentioned before. So you should ideally opt for either ETH or ERC-20. If you want to invest using Bitcoin, you need to ensure that you have an ETH version of it, such as Wrapped BTC.
More importantly, you should choose a coin that you have a lot of knowledge about, and have confidence trading in.
Have a Game Plan in Place
As is the case with many cryptocurrency transactions, DeFi protocols can be accessed and managed in multiple ways.
Once you have your crypto wallet or exchange ready for use, the possibilities are endless. You can lend crypto loans for an interest rate. These work just like traditional loans, with the additional advantage that being decentralized, you can expect higher interest rates. You can earn governance tokens by lending out your cryptocurrencies and become a yield farmer.
Another option that you have is to put your cryptocurrency in an exchange and earn by becoming a market maker. Reputed cryptocurrency exchanges such as Uniswap or SushiSwap even let you earn fees or governance tokens.
Lastly, you could invest your coins in DeFi projects that are highly experimental in nature, owing to the price volatility. The last option comes with a lot of risks, so you should go for it only if you have enough experience and knowledge about DeFi.
Wrapping Up
DeFi is a highly volatile but emerging market within the world of cryptocurrencies. There are many ways to go about DeFi transactions, including lending and borrowing cryptocurrencies. You can also avail yourself of other services and earn directly into your wallet. As an investor, you should be wary about the risks and protocols associated with such transactions. Remember that crypto trading is still in its infancy, so while it promises high returns and inflow of finances, it also entails major risks.