Leveraged Yield Farming: An Overview

What is DeFi yield farming?

  • Fast-changing rates, with yield farming returns automated through smart contracts.
  • Varied reward distribution mechanisms, according to the platform.
  • Mobility — yield farming is defined by the quick movement of crypto funds in order to chase the highest yield farming rates, calculated in APY. If we are considering yield farming vs. staking, the latter is more associated with a longer-term or locked-in investment in a protocol (although there are more flexible staking opportunities appearing on the market every day). Looking at how to yield farm, it can be done manually, but there are many auto-farming tools out there that automatically invest, devest, and re-invest according to the most profitable returns of the day, contributing to this quick mobility.
  • More flexibility in terms of how long a coin is locked up for (once again this is dependent on the individual project).
  • Compound is a DeFi lending protocol that allows users to deposit and borrow crypto assets.
  • A large amount of liquidity is needed in order to satisfy large borrowing volumes, meaning the platform has to encourage lenders to deposit their coins.
  • In Compound’s case, the lender receives interest based on the fees paid by the borrower. They also receive Compound’s token, which can be held or exchanged for other cryptocurrencies, and also gives holders proportional voting rights in the future of the protocol.

Yield farming benefits for users

Yield farming benefits for protocols

Yield farming considerations

  • Conditions can change rapidly — With more conventional financial products, terms and conditions aren’t as subject to change as in the crypto world. Written into smart contracts, the percentage return you receive can alter without warning based on coin price, available liquidity, and fees.
  • Unstable liquidity — While a project might encourage lots of capital one day, the next day it could be facing ruin should that same capital be moved to a project with a more attractive APY. Not only is this of course bad for the platform, it can also result in an individual’s position being liquidated, with a substantial loss of funds.
  • Governance token accumulation — This one carries an existential risk for projects, and one we have mentioned before in our article about alternative approaches to governance. Having a project where those with the largest number of yield farming tokens exercise outsized control can present dangers if short-sighted decisions are taken in the pursuit of immediate profits. You could find yourself aligned with a project that drastically changes overnight, jeapordizing your stake.
  • Smart contract malfunctions or hacks — High profile attacks have seen more projects taking smart contract auditing and testing seriously, but nonetheless, a DeFi farm is experimental by nature and subject to both malfunctions and different types of attacks.
  • Impermanent loss — While depositing funds in more volatile pools can bring large rewards, there is also the risk of a coin’s loss in value outstripping any interest accrued, which is known as impermanent loss.

What is leveraged yield farming?

  • With greater utilization of funds, lenders are often rewarded with more attractive APYs.
  • Yield farmers take home larger profits due to their initial investment which has been leveraged to double or triple the size.

Higher liquidation risk

Three top leveraged yield farming projects

Alpaca Finance (Binance Smart Chain)

Alpha Homora (Ethereum, BSC, Avalanche)

Apricot Finance (Solana)

Moving beyond just Ethereum

Yield farming as part of DeFi 2.0

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Igor Stadnyk

Igor Stadnyk

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Founder and CEO of INC4, I help fintech firms create blockchain and cryptocurrency solutions.