As Vitalik Buterin famously wrote in Ethereum (ETH) whitepaper, everything is a contract. Every contract can be seen as an if/else statement, and the focal point of decentralized finance (DeFi) is to combine contract structure with blockchain technology. Decentralized finance can be described as an open finance movement, enabling financial services globally to any user with a smart device.
What is DeFi
In contrast to the traditional centralized financial service sector, decentralized finance’s main value proposition is to solve the older financial industry’s inherent challenges. The most notable drawbacks of traditional centralized finance, or CeFi, are single points of failure, monopolizing power, and bureaucracy. Centralized finance utilizes trust-based software and heavy bureaucracy, while decentralized finance tries to minimize bureaucracy with trust-minimized software.
The decentralization of financial services can be achieved through smart contracts where rules are embedded in a computer code and automatically enforced. All the transaction-related data is stored in a distributed ledger. This process ensures that no party has complete control over transactions, thus preventing censorship or intervention.
From State Trust to Zero Trust
As mentioned, decentralized finance aims to minimize trust, and thus it’s often called the zero trust layer. The Zero Trust Layer (T0) has built-in trustless issuance and trustless settlement. The layer is composed of DeFi assets like bitcoin (BTC), Ethereum (ETH), Maker (MKR), Aave (AAVE), and Uniswap (UNI). The zero trust layer is the most antifragile tranche in this category and holds vast potential.
The Bearer Trust Layer (T1) includes assets like bearer bonds, national currencies in cash form, and the BNB token. The bearer trust layer is characterized by trusted issuance but trustless settlement.
The Legal Trust Layer (T2) features trustless issuance and trusted settlement. The assets in the legal trust layer are tokenized products like gold ETFs, Paxos Gold (PAXG), Tether Gold (XAUT), and Wrapped Bitcoin (WBTC).
The State Trust Layer (T3) is the complete opposite of the zero-trust layer. The layer includes assets like stocks, real estate, and national currencies. The state trust layer features trusted issuance and settlement, backed by a state-level actor.
Total Value Locked (TVL)
The adoption scale of DeFi projects can be measured by the total value locked (TVL) metric. Sites like DeFi Pulse track DeFi data by pulling the entire balance of Ether (ETH) and ERC-20 tokens held by these smart contracts. The total value locked is calculated by taking these balances and multiplying them by their price in U.S. dollars (USD). Maker (MKR) leads the DeFi scene with 6,3 billion dollars worth of TVL. Aave (AAVE) has above 5 billion USD TVL, and Uniswap (UNI) 3,79 billion. We’ll explore these projects further in this blog.
What is Maker (MKR)
Maker is a stablecoin project and decentralized reserve bank where each stablecoin (called Dai) is pegged to the U.S. Dollar and backed by collateral in the form of crypto. Stablecoins offer crypto programmability without the downside of volatility that you might see with more traditional cryptocurrencies like bitcoin or Ethereum.
Maker (MKR) has been performing well from 2020 to 2021 in both USD and BTC terms. MakerDAO is the organization behind MKR and Dai tokens, developing technology for borrowing, savings, and stablecoins. MakerDAO created the Maker (MKR) token, and the primary purpose of MKR is to support MakerDAO’s Dai token’s stability and enable governance for the Dai Credit System. Holders of MKR make critical decisions on the operation and future of the system.
Why it matters
Maker is a futuristic decentralized autonomous organization built for ambitious governance and stable value functions. Maker is backed by leading venture capital firms, including a16z.
What is Aave (AAVE)
A DeFi project with Finnish roots, Aave (AAVE), crossed $5,03 billion in total value locked (TVL) during spring 2021 and has continued to grow since. Aave is an Ethereum-based DeFi platform, which started its journey as ETHLend. The platform focuses on lending and recently launched undercollateralized lending based solely on social reputation. CEO Stani Kulechov, currently residing in London, manages Aave. Stani has a Finnish background, and the name “Aave” means ghost in Finnish, which reflects Stani’s relationship with Finland.
Aave issues two types of tokens for ecosystem operations: aTokens, issued to lenders so they can collect interest on deposits, and AAVE tokens, which are the native token of Aave. The AAVE cryptocurrency offers holders several advantages. For instance, AAVE borrowers don’t get charged a fee if they take out token-denominated loans. Additionally borrowers who use AAVE as collateral get a discount on fees. AAVE owners can examine loans before they are released to the general public if they pay a fee in AAVE. Borrowers who post AAVE as collateral can also borrow slightly more. The Aave ecosystem uses sophisticated game theory-inspired structures to incentivize different parties.
Why it matters
Aave is one of the leading Ethereum-based ecosystems for future money markets. Aave has raised funding from Blockchain Capital, Blockchain.com Ventures, Framework Ventures, and Three Arrows Capital.
What is Uniswap (UNI)
Uniswap (UNI) is a relatively new platform. As the price data shows, its governance token UNI has only been available since September 2020. The UNI governance token gives its holders the right to vote on developments and changes to the Uniswap platform. Uniswap is a fully decentralized exchange, not owned by any single entity. Uniswap is also completely open-source, which means anyone can copy the code to create their own decentralized exchanges. It even allows users to list tokens on the exchange for free.
Uniswap runs on two smart contracts: an “exchange” contract and a “factory” contract. The factory smart contract is used to add new tokens to the platform, while the exchange contract facilitates all token swaps or so-called “trades.” Users can swap any ERC-20-based token with another on the platform. Uniswap has solved its liquidity challenges by an automated liquidity protocol that incentivizes users to become liquidity providers (LPs).
Why it matters
Uniswap is the market-leading decentralized exchange (DEX) and holds massive future potential. The UNI governance token offers exciting opportunities for investors.
The Future of DeFi
The user base of decentralized finance is growing, and the industry is scaling up rapidly. Consequently, an escalating number of investors are looking to allocate in the developing industry. Coinmotion allows clients to buy Ethereum (ETH) directly on the platform; Ethereum has a strong position as the primary DeFi protocol. Coinmotion will likely list new DeFi-related assets in the future. If you’re interested in specific DeFi tokens, contact our private banking team.