Guide

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DeFi
DeFi

DeFi stands for Decentralized Finance, a category of applications on the blockchain that enable some more advanced financial functions.

Here are what I consider to be the Basic categories.

Basic

Lending

Lending protocols like

Aave⁠

enable you to deposit funds and borrow against them. The borrowers pay interest to borrow funds, and this interest is used to pay depositors.

Most DeFi lending applications require borrows to be over-collateralized, meaning you can’t ever borrow more than your deposit.

If a borrow’s USD value ever exceeds the defined parameters, the user’s deposit will be liquidated to ensure that the protocol’s funds are able to pay everyone down.

Decentralized exchanges (DEXes)

These are protocols that facilitate swaps and exchanges. Think of a DEX like a 24/7 vending machine for tokens: you can feed it a token and get another token out of it, as long as there’s stock inside.

⁠

Uniswap⁠

is a good example for the DEX category.

What’s really cool here is that unlike centralized exchanges, listings aren’t dependent on some centralized entity with unclear decision making or worse, requiring a huge fee. Anyone can list anything on a DEX, allowing new projects to find a place to trade.

Why “basics”

I consider these the basics because they have some pretty good synergy. They get more powerful together.

But for something a little more complex, say, if you’re bearish on ETH but bullish on BTC, you can:

Deposit

wBTC⁠

on Aave

Borrow some ETH

Exchange the ETH on Uniswap for BTC

And tada, you’ve expressed that sentiment. You didn’t need to send your funds to an exchange - you kept custody of your funds the entire time, which is pretty cool.

Intermediate

Well, with those basic primitives in place, it opened up room for what I call the intermediate category.

Some include:

Stableswaps -

Curve⁠

- this is a DEX meant for similarly priced assets, such stablecoins like USDC and USDT.

DEX aggregators -

1inch⁠

- as there can be a lot of DEXes, aggregators can route a trade through different DEXes to get the best possible price

And more!

I don’t want to get too into the weeds because this might not make sense to you yet.

There’s some homework for you to do at the bottom, and you can revisit this section when you’ve gotten some more familiarity.

Instead, I just want to point out that DeFi being composable has created a lot of new and different use cases. As most of DeFi can act like legos, it’s possible for people to keep piecing together to create different things.

For example, take lending, right? If you deposit your crypto into it, you can get a new token in return that signifies your deposit. Instead of having your deposit just sitting idle in your wallet, it’s actually even possible for you to put that deposit slip into a Uniswap liquidity pool.

This might not make sense to you now, so let’s get you to some hands-on stuff.

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Practical homework

For learning purposes, we are going to be using

DeFi Saver⁠

and their

Simulation Mode⁠

See, since DeFi runs on code and open smart contracts, it’s possible for an alternative UI like DeFi Saver to access the official functions themselves. Pretty cool, huh?

So here is the guide to get started with

Simulation Mode⁠

, and once you got those test funds, you can see Tasks for some things you can try to do. Double-click on the Further Instructions cells to see some more info and variations.

Ideally, keep a spreadsheet to track your portfolio in ETH terms to see how things fluctuate.

Tasks

Tasks

Done?

Task

Further notes

Deposit 5 ETH into Compound > borrow USDC > deposit USDC into Aave

Ideally, you compare Aave and Compound and try to spot something you can arbitrage. Meaning, can you spot an asset with a cheaper borrowing rate than the interest you get to supply it to somewhere else?

Open

Swap 1 ETH for USDC in the Exchange tab > swap USDC back to ETH after a period of time

Instead of swapping your ETH, if you did do the borrow from Compound, you can sell the COMP instead to get a feel for swapping. Swap COMP to whatever asset you borrowed and redeposit the new tokens into Aave or pay down your debt on Compound!

Open

Customize a gas setting for one of the transactions above

When you’re making a transaction, you’ll see something like this. I want you to try and customize the gas settings. You can toggle around by clicking on Cheap or Regular over Fast and observe how quickly your transaction becomes approved.

Open

There are no rows in this table

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A note on risk

Of course, all of these new concepts and experiments don’t come without risk. 😅 DeFi comes with hacks and exploits. If you want to be actively going deeper into DeFi, then make sure that you have the time to be actively managing a position or monitoring news for what you’re in.

Basic

Lending

Decentralized exchanges (DEXes)

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