Lending and borrowing crypto-assets in various crypto currency platforms have gained extreme popularity in the last few years, thereby changing the way people access loans and generate interest on their assets.
The approach that these platforms take is operation under the Decentralized Finance (DeFi) space, offering a revolutionary alternative to traditional financial systems, rapidly unlocking more flexible access to a loan without intermediaries like banks.
I will explain below how these platforms function and why they are growing so vital to the crypto ecosystem.
With cryptocurrency lending sites, people can lend their digital assets in exchange for interest. The flow is quite straightforward.
I may deposit some of my bitcoins or ethereums into a lending platform, and other users may borrow those assets, usually by providing collateral in another crypto.
As a lender, I will be able to receive interest on the amount I deposited, often in the same crypto asset.
The interest rates on these sites are demand and supply-oriented. Therefore, in the event that there is a high demand to borrow an asset, the interest rates rise, and the lender enjoys better returns.
In a low borrowing demand regime, the interest rates can be relatively low. It is a dynamic system that looks like market-based compensation models and works in a very fluid manner.
What is attractive about crypto lending is that you have a good chance of generating high returns compared to having a savings account where interest rates are relatively low.
Moreover, I do retain ownership over my crypto assets even though I lend them out, meaning I also get to reap the rewards from its value increase.
So, crypto lending platforms allow borrowers to obtain the funds easily very rapidly without the need to sell those crypto assets.
For instance, if I hold Bitcoin but need liquidity in order to pay for some immediate expense, then I do not have to sell my Bitcoin. I can deposit it with a platform as collateral and get a loan using stablecoins like USDT or USDC.
Thus, I will hold my Bitcoin whose value may appreciate, but I get the liquidity needed.
A basic process of taking a loan, or borrowing, typically involves over-collateralization of collateral of a value greater than the one borrowed.
Suppose I have to borrow a $1,000 stablecoin, then it would probably be against $1,500 worth of Bitcoin as collateral, which is an over-collateralization.
This is something that's done for security to win to the lender in case the value of my collateral drops.
The platforms will sell in case the value of the collateral falls below certain thresholds to pay off the loan.
Crypto loans are mostly issued without carrying out credit checks; this therefore makes it widely accessible to those that are not qualified in a traditional loan.
However, the convenience in access brings risks since crypto prices tend to fluctuate greatly.
Market downturn can lead to a liquidation of collateral with the loss of asset holdings on the borrower's side.
It is an alternative decentralized from the traditional financial systems and, therefore, involves no banks or intermediaries.
The borrower and the lender have much direct control over assets and the loan process. It is faster and more transparent than doing all that borrowing and lending stuff.
It also offers interest rates that are pretty competitive, offering lenders better returns but also some flexibility in borrowing to borrow.
However, these risks should not be ignored. One of the significant risks is the price volatility. For instance, once the value of the used collateral becomes too low, the borrowers can get liquidated, and they might lose their assets altogether.
Moreover, most of the lending platforms are decentralized; hence, there is no regulatory safety net as in the case with a traditional bank.
If hackers get access or a smart contract fails, then one might end up losing his funds.
In conclusion the new frontier of revolution for how people earn interest in their assets and access loans is through crypto lending and borrowing platforms.
Not having to deal with intermediaries and drawing on the raw powers of blockchain technology make these kinds of financial services flexible and efficient.
Some of the well-known risks and threats include price volatility and lack of regulation, but the potential for some high returns and easier access to credit makes them very attractive in the still-growing decentralized finance world.
May the winds of fortune
carry you to greatness!