How Does Yield Farming Work?
As an investor in cryptocurrencies, you're always looking for ways to make more money. Yield planting helps with this. What is crop farming, then? To put it simply, yield farming is the act of giving out your assets to make money. This might sound hard, but it's actually a pretty...
As an investor in cryptocurrencies, you’re always looking for ways to make more money. Yield planting helps with this. What is crop farming, then? To put it simply, yield farming is the act of giving out your assets to make money. This might sound hard, but it’s actually a pretty simple process. In this post, we’ll explain what yield farming is, what the best crypto yield farms are, and how you can start using it to make more crypto.
How Does Yield Farming Work?
Yield farming is a common way to use your crypto assets to make passive money in DeFi. Yield farming didn’t become popular until 2020. Before that, many investors who bought and kept cryptocurrencies only did so in the hopes of selling them at a higher price. But why just buy and hold when you can put your assets to work and get more crypto as a reward?
Most yield farming happens on the Ethereum platform, where farmers are paid with ERC-20 coins, but yield farming is also possible on other blockchains. Usually, you lock up your assets in a liquidity pool made by a decentralized finance (DeFi) system and lend them to a project. The smart contracts that make these liquidity pools work run naturally, and there are no centralized middlemen. Through yield farming, crypto holders can turn their locked assets into a source of passive income in the form of transaction fees, interest, or whatever else the DeFi system uses.
Is staking the same as yield farming?
Yield farming and staking are two very different ways to make passive income, but they both require you to lock up assets that would otherwise be sitting idle. One reason is that crop farming is more dangerous than staking. Locking up assets in DeFi protocols to make interest and rewards is a part of it. On the other hand, staking is done for a specific reason. It is used to support blockchains that use the Proof-of-Stake (PoS) method for reaching a decision.
In Proof-of-Stake, validators, who are like miners in Proof-of-Work, lock up a certain amount of crypto assets to show that they are interested in validating events on the blockchain. If they are chosen as validators, they are given newly made coins as a thank you for their work.
When you stake, you have to lock up more assets than when you farm. The more assets you lock in, the more likely it is that you will be chosen as a validator. But there are ways to stake with less coins, such as through crypto swaps and staking pools.
Yield Metrics for Farming
Yield farming measures are important because they show how well a DeFi contract is doing at a glance. You can get a good idea of how safe and profitable a contract is by keeping track of things like the number of investments and the expected returns. But it’s important to keep in mind that these measures are only estimates. You should keep an eye on the following three yield growing metrics:
Total Value Locked (TVL)
This number shows how much value has been locked in DeFi contracts so that yield farming can happen. It is worked out by multiplying the number of assets staked or placed by the price of those assets.
The TVL is a good way to figure out how healthy the DeFi and yield farming business is as a whole. It’s also a good way to figure out which DeFi networks are the most popular and how much of the market each blockchain has. You can find the TVL for a project by going to its website, but sites like DeFi Llama and DeFi Pulse give a better picture. (Ethereum-based protocols only).
Annual Rate of Return (APY)
When it comes to crop farming in DeFi, one of the most important numbers to keep an eye on is the Annual Percentage crop (APY). The APY is a way to figure out how much interest you made on your crypto investment in a year. It is a good way to measure how profitable a particular yield farming plan is because it takes into account the effect of compounding interest. That is, the total interest you earned on both the original crypto you bought and the interest you put back into the market.
Rate based on a year (APR)
The APR is also used to figure out how much interest you get when you put crypto tokens in a yield farm. But, unlike the APY, which takes into account what happens when interest is added to itself, the APR only looks at the yearly interest rate.
Farming with different yields
Investors can play a few different parts, and it’s important to know the different kinds of yield farming.
Liquidity providers are the backbone of the automated market makers of decentralized exchanges (DEXes) and are essential to the health of these markets. They use their crypto assets that would otherwise be sitting idle to add liquidity to decentralized markets. In exchange, they get a share of the fees that are charged when trades are made or tokens are given out through the site.
Investors must put a crypto trading pair into the liquidity pool, which is a smart contract, in order to act as liquidity producers. ETH and USDT are two examples. This makes sure that there are always enough assets to fill buy/sell orders and that users can always trade ETH/USDT on the site.
Lending is another popular way to make money with your crypto holdings because it has a high return potential and is a low-risk way to make money. Here, buyers put money into a trustless smart contract liquidity pool, which then makes the money available to people who need it. By doing this, they act as a source of cash for the project or organization that takes the money. When the user pays back the money with interest, the investors get a share of the interest based on how much money they put into the liquidity pool.
This way of yield farming is less common than lending because it is more complicated. Here, investors can put up one token as protection, borrow another token, and then put the first token back up for lending. This means that they are giving out both the money they put up as a deposit and the money they borrowed in order to get twice as much money back for lending. But this is much risky for small investors because a drop in value can lead to a sale.
In staking pools, people pool their money to bet on more tokens. Then, the pool splits the benefits based on how much each person put into the pool.
New crypto users like this type of yield farming because they don’t need a lot of money to get started, and it’s a great way to learn about other types of yield farming. You can also bet on prizes that are based on tokens from liquidity pools.