DeFi offers some incredible opportunities to leverage your coins and grow your bags. Many protocols offer a range of investment products, and you can be rewarded in more of the same coin, a second coin, and occasionally even a stablecoin.
Two of the common DeFi earning products you will see are staking and yield farming, sometimes simply referred to as farming. Both ideas involve lending out your coins, for which you are rewarded, but work in very different ways.
Staking requires delegating an individual coin to a blockchain or validator node, for example. It uses a smart contract to manage your lending and you will earn rewards for as long as you leave it there. Some staking protocols allow you to stake and unstake whenever you choose however others will lock your tokens for a fixed period of time. It is well worth noting these conditions incase you want quick access to your coins in future.
Yield Farming refers to lending your coins into liquidity pools to enable trade on a decentralised exchange. This requires the creation of LP tokens which are a combination of two of your coins which you want to lend. For example if you wanted to supply liquidity to an Ethereum – USDT pool, you would combine your ETH and USDT into an ETH-USDT LP token. The lenders are then paid rewards which are a cut of the trading fees that other users pay to the protocol.
Staking rewards are fixed and either given as an APY or an APR. This will be a percentage of the amount you lend, over a specific time period. APY is different to APR because it factors in compounding your rewards over the lending period. Rates are typically between 5-10%.
Yield farming requires much closer management of your coins but can yield much higher rewards. In more stable farms you could expect an APY around 100% but this can increase drastically into the thousands.
Staking rewards are the network incentive given to validators that fundamentally help the blockchain to function.
The rewards for yield farming come from trading fees in a decentralised network. The amount is determined by the liquidity pool and can fluctuate depending on performance.
Staking your coins is governed by a set of rules, defined by the blockchain’s consensus. It is generally a safe practice for your investment, if you trust the network and they have a good reputation. If anyone tries to manipulate the system they risk losing the coins.
Yield Farming security relies on the design of the DeFi protocol. There is a much greater chance for vulnerabilities to be exploited, which could result in losing your investment.
No risk of impermanent loss, the value of your coins stay as they should be.
Big risk of impermanent loss due to the nature of LP tokens being minted at a 1:1 ratio. When you come to withdraw your coins, unless the price ratio of the two coins has stayed the same, you will receive a different amount to your investment.
Depending on the network, you may be required to stake for a fixed period of time. There may also be an ‘un-staking’ period which can range from a few days to a several weeks, before you receive the coins back to your wallet.
No lock up periods – you are free to farm for as long as you like!