DeFi
Here are the smartest ways to make money in DeFi: IntoTheBlock report
Crypto market intelligence provider IntoTheBlock released a report on Thursday comparing the best risk-adjusted methods for earning yield in the world of decentralized finance (DeFi).
Despite the “nearly infinite number of composable strategies,” the company says it’s best to stick to “simple strategies,” which boil down to “just a handful of different primitives.”
The best way to earn in DeFi
The first strategy put forward by the company is AMM liquidity provisioning.
An AMM is an automated market maker. To earn yield, DeFi users can deposit their assets into AMM pools for different trading pairs, where they help provide liquidity to enable transactions. Depositors earn yield on trading fees every time a user trades between two assets using this pool.
AMM returns tend to produce higher returns for trading pairs in which the two assets have a low price correlation. However, the volatility of assets in these pairs also creates a risk of temporary loss for investors.
“As more capital is added to the pool, the expected APY becomes diluted,” IntoTheBlock continued. “Since expected returns decrease as more capital enters the pool, the initial size of the pool relative to the capital deployment must be considered.”
Another promising source of high yield is “recursive lending,” where protocol users can supply and borrow the same asset, profiting from the difference between borrowing costs and protocol incentives. As with AMM pools, returns decline as more capital is added to the strategy, which is why the company recommends lower leverage when depositing more than $3 million in assets.
Assessing the risks of DeFi
Then there are “supervised loans”, which integrate the two previous techniques. Users use an “unproductive asset” (e.g. BTC) as borrowing collateral, then use their borrowed funds to purchase a “more productive asset” that generates a return in another area, such as an AMM pool.
Returns from this strategy can be low or net negative, as borrowing rates can often exceed protocol incentives and carry both liquidation and value loss risk.
Finally, the report highlighted “leveraged staking” as a strategy to produce “average” returns on assets like ETH or SOL, which can be natively staked for yield to secure their respective blockchains.
The yield remains positive with this strategy as long as borrowing rates for this asset remain below their staking rate. Yields increase as leverage increases, potentially exceeding 10% APY, compared to the 2% to 4% yields typically seen with simple staking.
“The combination of these strategies can create a complex chain of risk considerations when it comes to rebalancing and taking profits,” IntoTheBlock warned.