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DeFi Explained

DeFi Explained

While crypto may still be seen by some as “underground”, a place for enthusiasts and tech nerds, DeFi is something that everyone should be paying closer attention to.

It could be that in a relatively short time the way we bank, borrow, lend, carry out financial speculation and even buy insurance could radically change.

 

Welcome to the world of DeFi!

DeFi stands for decentralised finance. It offers a decentralised financial system that eliminates the need for traditional middlemen: banks, payment providers, exchanges, insurance etc

DeFi today is still very much in its infancy but has a very promising future, potentially providing a more financially accessible and egalitarian possibility for millions, maybe one day even billions, of people around the world. 

That sounds like a good thing indeed!

 

TradFi vs DeFi

Traditional Finance is, as the name suggests, traditional financial players like commercial and investment banks and brokerage houses that can often be hundreds of years old and are involved in every aspect of finance from banking to trading and everything in between. 

On the opposite of that spectrum are the young new upstarts starting a revolution by throwing hand grenades into the traditional and gentile world of TradFi. 

These DeFi upstarts envision a world where there are no organisations controlling access to the world of finance and where the rule book is literally set alight and unceremoniously thrown out the window. 

In this article we are looking at the highly innovative world of DeFi and how it contrasts and potentially threatens the cosy and highly entrenched world of traditional finance (TradFi ).

 

DeFi vs TradFi, a historically monumental shift

Today’s financial systems might feel antiquated when compared to the wonders of the technology-driven world we live in. 

The world of TradFi tries to keep up with consumer needs by building on top of an existing closed system and open finance has helped somewhat to drag TradFi into the modern age. 

We must however keep in mind that even open finance whilst fresh and innovative is still constrained by the rules and limitations of traditional finance and their way of doing things.

DeFi on the other hand is starting from scratch in many ways and building something totally new and free from the constraints of TradFi.

The inescapable fact is that times and consumer habits, needs and expectations have changed and now technology exists that can facilitate the kind of monumental shift we are seeing in the crypto world. 

It is no different to automobiles challenging the horse and cart or online travel agencies such as Expedia or Booking.com challenging traditional travel agencies during the early internet boom.

 

So, what does DeFi potentially have in store for us? 

First, do note that this is a revolution and not an evolution. 

The automobile wasn’t a horse that could go faster, the automobile eliminated the horse completely from the picture. 

In much the same way DeFi is not an evolution in TradFi but rather a true revolution, a re-start from scratch, in a sense. 

Of course, people’s core financial needs are still pretty much the same: earn, hold, pay, save, borrow, lend, invest, convert, trade, insure, donate. 

But the infrastructure to do those “basic” things is about to be re-written completely!

Just as in the early days of automobiles when there were plenty of accidents along the way, no speed limits, no speed cameras or speeding tickets, DeFi is currently a bit of an unregulated, free and “wild-west” of finance. 

It’s basically doing everything that traditional finance does, and more, without re-using a single piece of it.

 

DeFi explained

Decentralised Finance is the “money” arm of the crypto world. 

Think of it as Wall Street 2.0, where decentralised companies go public and services like lending, borrowing and derivative trading can all be accessed by anyone.

 

How Defi Started

In many ways, Bitcoin could be seen as the very first example of DeFi even though the term DeFi hadn’t been coined yet, if you pardon the pun! 

Bitcoin was and still is a decentralised monetary system independent of any government or central organisation, the very essence of DeFi. 

But the only use cases were “hold” and “pay”. There was no lending, borrowing, trading or anything else natively built on the Bitcoin blockchain.

The first example of what we would today consider to be Decentralised Finance started in 2015 with Maker. 

Maker had a vision to create a decentralised financial system that would be governed by its user community and, in doing so, give borrowers more control of their assets. 

Maker allows users to borrow Dai, the platform’s native token which is pegged to the US dollar. 

This is one via a set of smart contracts on the Ethereum blockchain, which govern the loan, repayment, and liquidation processes

So Maker lends money against collateral, like a pawn shop or a real estate mortgage dealer. 

That was DeFi use case #1. 

In 2018 Uniswap was released and allowed the exchange of any token for another token without the need for a central exchange and in 2020 AAVE made lending and borrowing decentralised. 

From then on things went crazy and today you can earn, hold, pay, save, borrow, lend, invest, convert, trade, insure, and donate with Decentralised Protocols. 

Whereas in open finance fintech apps are interfacing with established financial institutions to provide consumers with a greater ease of use, developers in the DeFi world are rewriting the rule book completely. 

They are not looking for ways to integrate with traditional intermediaries but rather eliminate them from the picture completely! 

Why connect to a bank’s back end if everyone can hold their own keys and be their own banks?

How can this be possible you might be asking, don´t we need these very solid financial establishments like banks to provide us with lending, borrowing, derivative trading facilities and so forth? 

Well, it turns out that we maybe don’t. 

As mentioned above, the majority of DeFi applications are built on top of very sophisticated blockchain technology called Ethereum which had a market value of $225 billion as of 2nd August 2023. 

To put this into perspective, Barclays Bank had a market cap of $31 billion on the same day. 

So the market cap of Ethereum was nearly 7x that of Barclays Bank! 

Considering that Ethereum came into being in 2015 and Barclays Bank was founded way back in 1896, Ethereum is certainly no financial lightweight when compared to the big boys in TradFi. 

 

There are four main tenets that all DeFi apps share

DeFi apps use a blockchain as their core ledger

All DeFi apps use blockchains for their underlying technology, a few of the most prominent blockchains used to build DeFi apps include Ethereum, Solana, Terra, and Binance Chain. The blockchain performs the central task of recording a ledger of all transactions in the form of blocks.

DeFi apps are open source and transparent by design

Being open source and transparent by nature allows a level of auditability making it possible to delve into smart contracts to see exactly what a smart contract is doing in terms of functions, user data and permissions. Lastly, the entire flow of funds is auditable, this is pretty major when compared to TradFi where everything is hidden away behind proprietary systems accessible only by people on the inside.

DeFi apps are interoperable and programmable

We often hear about “money legos” when looking at DeFi. This is a reference to their composability. Each individual DeFi app can be seen as a “Lego brick” for a specific financial service or product that can be freely combined with others. These “Lego bricks” are in a sense clicked together for each individual transaction in real-time enabling a level of speed, flexibility and innovation that would be unthinkable or even impossible in the way more closed-off and proprietary world of TradFi.

This is why innovation happens so fast: if you want to build a service that requires “swapping” tokens and “lending tokens” as fundamental building blocks and then adds some value on top, you don’t need to rebuild those two building blocks, you can just “plug into” Uniswap” and “AAVE”, and you only need to build the small thing that is unique to your app. 

In traditional finance that could take months of negotiations; in DeFi it takes the minutes required to connect to an API.

DeFi apps are open and accessible to all

One of the most underappreciated aspects of DeFi products is the inherent equality of accessibility. No institution or intermediary can deny service which is also known as being permissionless. 

If you have sufficient funds within your wallet for the transaction that you wish to carry out, you can do it irrespective of where you are from or who you are, it’s as simple as that. 

Compare that to TradFi where an individual can still decide whether a person gets approved for a loan or can even open up a bank account! 

The DeFi world does not care about these sorts of things. 

As long as you have enough coins or tokens in place to carry out the desired transaction there is nobody there to stop you. 

In a world where discrimination sadly still exists and where so many people around the world still do not have access to basic banking facilities let alone sophisticated financial services it´s clearly about time!

 

The DeFi ecosystem now

Some examples of DeFi apps include: 

  • Decentralised Exchanges – also known as DEXs – such as Uniswap where trades can be executed without the DEX having to hold on to your funds to execute trades. 
  • Decentralised Derivatives Trading – On Synthetix for example, you can trade in commodities, something akin to derivative trading without the need to have and hold the commodities in question, instead you trade something called Synths that are synthetic assets. 
  • Lending – Compound is a decentralised peer-to-peer (P2P) lending platform where users can earn interest or borrow assets against collateral. AAVE too.
  • Insurance – Nexus Mutual is a decentralised autonomous organisation that provides smart contract insurance.

 

Risks and opportunities with DeFi

By now the opportunities of using DeFi are probably apparent: Autonomy, speed and opportunities previously unavailable.

But there are also quite a few risks still associated with Decentralised Finance that you should consider before rushing into anything.  Here is an overview of the types of risks you are looking at:

1. The risk linked to the “smart contract”

The risk linked to a “smart contract” (the computer code on the blockchain) you are using (AAVE, Uniswap,…). For example, we have seen the following happen in the past:

  • Oracle Attacks &/or Clever Arbitrage Execution: Manipulate the price through oracles, volumes or both, get lots of stuff for cheaper than it is, and then sell it at its real value.

Example: bZx, Cheese Bank, Harvest

  • Contract Design: if you let them print tokens, they will. 

Example: PickleFinance

  • Reentrancy Attack – happens if a contract makes an external call to another untrusted contract before resolving. For example, if it transfers funds before setting its balance to zero, an attacker can beat the withdraw function to death and essentially drain the entire contract. 

Example: Akropolis, dForce, and Origin

  • Front-end issues: bugs in hosting or domain leads to attacks – not specifically DeFi, but still a problem faced by NiceHash. If you go to app.uniswap.org trusting that it’s Uniswap when it’s in fact an attacker, it doesn’t matter how safe the Uniswap smart contract actually is, because that’s not who you are interacting with.

2. The financial risk

As in the risk of not being repaid when needed, or at all, even if everything keeps mostly working

  • While most lending platforms use over-collateralisation to reduce credit risk, over-collateralisation does not completely remove credit risk – The collateral assets that back loans on DeFi platforms have a high level of variation, in liquidity & stability of price.  
  • Liquidity: if all the money in a lending pool is lent out, you can’t withdraw, and you need to wait until some loans are repaid.
  • The yield is still mostly variable today. If you deposit at 11% today, it might be 2% tomorrow. 1 year low is 0.68%
  • If you rely on EUROS for spending but lend out USD, there is a bit of an exchange risk too. 

3. Blockchain or stablecoin risks

  • If the Ethereum Virtual Machine or Parachains or, your blockchain of choice breaks or gets hacked. But at that point, we potentially have a bigger problem.
  • Ethereum transaction fees and congestion leads to the inability to move in/out.
  • Your stablecoin of choice proves to be worthless, gets hacked…and your unit of value = 0

4. You make a mistake

You are your own bank, so your mistakes are your mistakes: Hacked keys, hacked notepads, metamask hacks, paper wallets lost in the wash or giving your money to a fraudulent project could all see you lose your money.

 

As wikipedia says, “Inexperienced investors are at particular risk of losing money using DeFi platforms due to the sophistication required to interact with such platforms and the lack of an intermediary with a customer-support department.”

 

Conclusion

Throughout human existence there have been events that have significantly shaped our societies, discovering fire, the wheel, horses for farming & transportation, the industrial revolution, the internet and most recently web3/crypto and DeFi. 

While DeFi may still be the new kid on the block, this kid isn’t messing around!

Whichever way we look at it, a shift in the status quo in finance and financial equality is urgently needed at a global level and now seems like the perfect time to throw that proverbial hand grenade!

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Buy the Rumour Sell the News

Buy the Rumour Sell the News

In cryptocurrency trading and trading in general, investors often buy the rumour and sell the news. This is usually because prices tend to rise as a rumour spreads and then drop when the actual rumoured event takes place.

In the simplest possible terms, a buy the rumour, sell the news occurs when traders buy into an asset, be that a stock, commodity or crypto on the breaking of a rumour and ride a gradual rise in price up to the point where the news actually breaks.

A buy the rumour, sell the news or also known as a buy the hype, sell the news strategy sounds rather counterintuitive but tends to be the case in most instances, especially in financial markets. 

Buy the rumour, sell the news works as follows

Traders hear a rumour about a positive future event and this rumour gets them buying in order to cash in as the price rises prior to the announcement. 

The event happens as expected and then the price starts to drop and by then most smart traders are already out and have taken much of the profit out too. 

Buy the rumour, sell the news makes very little logical sense but turns out to be the case a lot of the time.

 

A fictitious example of how buy the rumour, sell the news could look

Let’s imagine a fictitious scenario and use a company like Apple and Apple stock as an example to illustrate how buy the rumour, sell the news works.

Imagine that rumours start circulating about a brand new foldable iPhone that people say will be announced in a few month’s time by Apple. 

It will be a game-changer for the iPhone lineup and give Apple a foldable phone to compete with Samsung and its foldable smartphone. 

As the rumours grow, screen renders appear around the internet and on social media, the price of Apple stock rises in anticipation of the official announcement. 

A few months later Apple announces its brand-new foldable iPhone to much fanfare and applause. 

At this point, the price of Apple stock will likely begin to drop. 

Now, this makes no logical sense as the rumour turned out to be true and therefore the price should continue to rise and not fall as there will most likely be a huge amount of sales of the new foldable iPhone. 

This is however how markets tend to react and that is what counts in the end if you are a speculator/trader. 

It is worth noting that typically, this drop in price tends to be temporary.

 

Timing is everything when it comes to successful trading

Due to this buy the rumour, sell the news phenomenon, clever traders get in when the rumour surfaces or perhaps even before the rumour leaks if they have a hunch or an early indication and then they sell shortly before the news is released, hence buy the rumour, sell the news. 

If this is predicted and executed precisely the trader can ride the rise, take a profit and get out before the price drops. 

The primary reason why the price rise occurs just after the rumour is that traders are already buying into the future event that has actually not yet taken place and when the event does occur traders have already taken the profit during the rumour period.

Think of it as the profit being delivered before the event and not after. 

If the news happens to be even better than expected traders may often continue to hold for a little longer and squeeze out a little more profit as new buyers can often drive the price even higher.

 

The reverse can also be true

Rumours of a negative event can sometimes drive prices down and then when the negative event does not come to pass the negative sentiment reverses and the price can begin to rise again. 

A kind of sense of relief price rise when the expected bad event didn’t actually end up happening. 

This reverse negative rumour situation can also allow smart traders to profit.

 

Some general pointers on how traders can use a buy the rumour, sell the news strategy

These are of course not exact or a complete list but can provide some examples of buy the rumour, sell the news strategies

  • Buy positive events that occur without a rumour – when a positive event occurs unexpectedly it could be good to jump in and ride the price increase
  • Buy on positive rumours – when a positive rumour breaks jump in and ride the price rise up to or just before the point where the news actually breaks
  • Sell on negative rumours – do the exact opposite of the above, sell on negative rumours and buy when the news breaks
  • Buy before any possible negative event is about to occur – and ride the possible price rise
  • Use a stop – for a situation in which an event does not occur in time as it’s possible the price will drop and you can limit any losses
  • Do your homework and be fully prepared for things to go wrong – nobody really knows what will happen with any level of certainty so it’s best to exercise some level of caution when it comes to trading and speculation

 

A possible example of buy the rumour, sell the news in crypto trading

When Coinbase listed in April 2021 on Nasdaq, Bitcoin prices had been rising significantly before the listing took place and reached a high of almost $65,000.

Following the Coinbase listing, Bitcoin lost almost half of its value in a matter of a few months. This could certainly be explained by a buy the rumour, sell the news situation although it’s impossible to say for sure.

 

Conclusion

Buy the rumour, sell the news is a very well-worn expression in financial markets and with just cause. 

Very often price rises and drops can be expected to some degree and this is where smart traders are able to jump in and out of assets, be they stocks, commodities or crypto. 

These traders through their timing and knowledge have a feeling about what to buy, when to buy and when to sell based on situations like buy the rumour, sell the market.

Smart traders will often take much of the profit out of the event prior to the event taking place, i.e. they have already been there and taken the bulk of the profit before later comers show up to enjoy what’s left of any profits still sitting on the table!

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HODL Explained , hold on for dear life on the roller coaster

HODL Explained

HODL is a term very commonly used by cryptocurrency investors and refers to a person holding on for dear life in a bear market

The world of crypto uses a huge amount of slang when compared to other technologies from the past such as personal computers or the internet. 

Both have had their fair share of course, like WYSIWYG, which stands for What You See is What You Get on a screen as an example. 

Yet, crypto is full of strange words and acronyms and it’s only just over 12 years old. 

It’s likely that in the future there will be dictionaries dedicated to the strange and wonderful language of crypto. 

Today we’re looking at the word HODL which originated from a misspelling of the word HOLD.

 

The origins of the now-famous HODL

The word HODL came into being by accident when a BitcoinTalk user by the name of GameKyuubi wrote on the thread “I AM HODLING” on December 18 2013

GameKyuubi wrote:

I AM HODLING

“I type d that tyitle twice because I knew it was wrong the first time. Still wrong, BTC crashing WHY AM I HOLDING? I’LL TELL YOU WHY. It’s because I’m a bad trader and I KNOW I’M A BAD TRADER.”

And so it was that the word HODL suddenly came into being during a drunken, self-deprecating rant and is now a well-used term in the crypto investment world. 

HODL has taken on so much significance in the crypto community that December 18 is known as HODL day in homage to the day that the “hodl” post was now famously written and yet another crypto legend and acronym was born.

Since those early days when the word HODL just meant holding, the term has evolved so to speak and the crypto community converted HODL from a simple spelling mistake to the acronym 

‘Hold On for Dear Life’ very much describes the roller coaster emotion behind hodling.

 

So what is hodling exactly?

In the simplest terms, it’s when a person holding crypto holds on for dear life during a downturn in price and refuses to sell even as the price continues to plummet. 

It is an investment strategy that is also known as buy and hold in traditional investment circles.

When we talk about hodling we are looking at a buy and hold strategy and are effectively talking about holding onto crypto although it could also be a stock for the long-term regardless of the prevailing market volatility. 

The idea being that over the long term investment assets tend to trend upwards and so just by hodling and riding out the bumps we should in theory still come out ahead and often tends to be the case.

Those that are highly experienced traders be that in crypto, stocks or other commodities can strategically and cleverly ride the bumps and profit with the goal to get in and out at the exact right time as often as possible. 

There are no guarantees of course but it is at least possible with enough knowledge and risk tolerance. 

On the other side of this coin are the completely inexperienced investors who have bought into a crypto or other asset and are tracking the price daily. 

The moment the crypto or asset starts dropping in price they panic and may sell off all or part of their holdings in order to stem the losses. 

Inevitably though, many times, prices level off and after some time may start to climb again and even end up higher than when the storm hit leaving those that sold rather frustrated. 

For this category of investor, a hodl strategy could make more sense as long as they stick to holding on for dear life no matter what happens. 

Of course, it’s easier said than done but is probably a wiser overall strategy when compared to panic buying and selling which rarely ends well for anyone!

 

There is another hodl which is actually a crypto token

It’s worth noting that there is an actual cryptocurrency token called HODL.  That HODL operates on the Binance smart chain and shouldn’t be confused with the general crypto term HODL that we are speaking about here.

 

Knowing when it’s time to HODL

When we look at long-term investing or hodling in general we have to make a clear distinction between traditional investing, blue-chip stocks like Apple, commodities or even FIAT currencies and crypto trading. 

While nothing is of course certain and anything could indeed happen, the likelihood of a company like Apple suddenly going kaput is pretty unlikely. 

It could be a safe, if not very exciting investment for the long term as Apple is well established, is very liquid and operates in a highly regulated market. 

One could therefore buy Apple stock and hold onto it for 10 years without too much worry. 

The same cannot be said with as much conviction about crypto. 

Crypto is highly volatile and still very much in its infancy. A crypto could rise exponentially in ten years or disappear from the face of the earth with equal probability. 

This, therefore, makes crypto hodling quite different to a traditional buy and hold strategy with stocks. 

Naturally, it’s important to do as much research and due diligence as possible before making an investment decision and not having all the eggs in one basket would certainly minimise the risk. 

It’s probably fair to say that the most natural hodlers are those that believe in the long-term future of crypto and perhaps have a decent understanding of the crypto universe and how all the pieces of the jigsaw puzzle fit together. 

This can help the investor make slightly more informed decisions and keep their nerves steady as they are holding on for dear life during a freefall!

 

Conclusion

HODL is not just a bit of fun crypto folklore, it stands for an investment strategy of sorts where it could make sense to hodl and just hold on for dear life when things begin to look grim, think 2022 & 2023!

Quite possibly the storm will come to an end and things will eventually bounce back with vigour. 

Of course, nobody knows for sure and in the world of crypto with its wild volatility, it can take nerves of steel to hodl, especially when the amounts involved are significant! 

Whatever the case, it may make more sense to stay calm and hodl rather than panic sell and come to regret it later.

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FUD - fear, uncertainty and doubt

FUD – Fear, Uncertainty and Doubt Explained

FUD, which stands for Fear, Uncertainty and Doubt has inevitably made its way into daily crypto speak. As a knowledgeable crypto investor, it is well worth understanding what FUD is and what to look out for as it could save you a pretty penny!

The dangers of FUD?

As mentioned above, FUD stands for fear, uncertainty and doubt. These are, however, only words. 

It is essential that one understands what lies beneath the surface as there could be significant consequences if FUD is not correctly recognised. 

Ultimately fear, uncertainty and doubt can very easily lead to chaos, panic and confusion, not an ideal environment for investing or business in general. 

FUD by way of spreading false, misleading or negative information could very easily derail an otherwise sound project or tempt an investor to sell coins or tokens early out of panic and thus lose out on potentially bigger profits further down the road.

So what is FUD exactly beyond just the words?

FUD can be something quite innocent borne out of genuine ignorance or intentional when used in a sinister way by people or organisations with an agenda to push. 

Those that push FUD are better known in crypto circles as ´FUDsters´.

In the still largely unregulated world of crypto where a huge amount of volatility and money-making potential exists, there will be individuals and organisations that may want to influence events and drive prices down to make bigger profits. 

There could be a rival organisation, a disgruntled employee, or an unhappy customer who wants to see a project’s demise. It could even be an individual or organisation that doesn’t want to see the broader world of crypto grow in prominence and could spread misinformation to discredit the world of crypto itself. 

Then there are those mega influential people like Elon Musk who have a love-hate relationship with crypto and whose actions and statements can have a very dramatic effect on the coin in question or even the entire crypto ecosystem.

FUD is not new, it has been around for a while!

FUD; fear, uncertainty and doubt have no doubt been in use in one way or another since we were first able to communicate. 

A person, group or organisation could spread false rumours, doubts or fears to give momentum to their own agenda or to get a rival out of the way. 

Politicians and businesses have been successfully employing this neat little trick for a very long time. 

The IT industry has used FUD with great effect, a few IT heavyweights using FUD have apparently included Microsoft, IBM and Apple during their formative years where much like the crypto world of today, the burgeoning information technology sector was up for grabs. 

Dirty tricks and misinformation were sometimes used to push a particular agenda or to discredit the young upstarts nipping at the heels of the bigger players. 

A very common playbook!

Let’s look at a few examples to see how FUD could be used in crypto

Starting with the innocent/genuine ignorance use case it’s pretty easy to understand. 

A person hears something third-hand and starts talking or writing about it without any real knowledge or evidence. 

They believe it to be true and start to spread the word via social media or crypto forums. 

This can be quite dangerous, especially in the world we live in, where potentially false information can be spread easily and rapidly without the need for editorial verification.

As crypto is still very much in its infancy and largely unregulated, it is somewhat of a free for all and every person and his or her dog can chime in with their opinion, correctly, or completely falsely. 

Therefore, it is important to do some homework and verify multiple credible sources of information before believing what you read or hear. 

Basically, don’t just accept a rumour or information at face value unless you can really trust the source.

A few typical examples of crypto FUD include;

  • Bitcoin is just a big Ponzi scheme waiting to burst
  • Bitcoin and other cryptocurrencies don’t actually have any real value
  • There is no real use case for crypto, I don’t see the point
  • Governments will soon ban crypto and it’s game over
  • Crypto mining is bad for the environment due to the intense power usage
  • Cryptocurrencies help to facilitate crime and cyberattacks

How to avoid falling into the FUD trap!

If you read or hear that maybe a token you hold is a scam, get onto it fast to try to verify the information from multiple reputable sources, catching it early could save you a lot of money and heartache. 

At the same time though, if the information is indeed false you don’t want to sell early and miss out on potentially bigger profits.

If you hear or read something negative don’t simply accept it as truth no matter how well-spun it is, take the time to look into it and make your mind up based on the information you have gathered yourself.

The internet is full of information, good and bad, reliable and unreliable. Use the wealth of information at your fingertips to be better informed and make wiser decisions.

Conclusion

As the old adage goes, “if it’s too good to be true, it probably is”, well, FUD is of a similar flavour, if something doesn’t quite smell right it’s worth taking a closer look before making any major decisions.

In summary, It would be wise to understand the subtext of any information you have received, do some homework of your own, read between the lines and try to understand any possible motives behind the statements. 

Sometimes, a piece of information may well save you from financial harm, e.g. being alerted to a scam.  It’s well worth keeping an open mind but don’t just accept what you hear without question, remember FUD, fear, uncertainty and doubt are three very powerful words that could just as easily harm you or help you!

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web3 the new technological wave

Web3 and DeFi, the next big technological wave!

The crypto juggernaut is gathering speed and at a breakneck pace. What was once the sole domain of crypto enthusiasts is now entering the mainstream with a vengeance. 

It seems that nowadays everybody is talking about crypto and itching to get in on the action. 

In particular, the focus and excitement is in the explosive areas of Web3 and DeFi. 

In this article, we are going to look at some of the fundamentals and longer-term investment opportunities presented by the major technological shifts taking place in the world of web3 and Defi.

It’s 2009 and Bitcoin arrives on the scene

It all began in 2009 with the arrival of Bitcoin, a revolutionary decentralised digital currency without geographical barriers or any form of central government control. 

The pioneering blockchain technology running under the covers planted the seeds for where we are today. 

Bitcoin itself is still purely a means of holding and transferring value, much like a traditional fiat currency like the dollar or euro or a valuable commodity such as gold. 

Bitcoin does not serve any other extended purpose. The arrival of Bitcoin however introduced a breakthrough technology, the blockchain which has opened up a multitude of possibilities that have the ability to disrupt virtually every industry and in particular finance. 

Welcome to DeFi and Web3…

From its earliest beginnings, the crypto world has evolved at rapid speed and has in recent years spawned an entirely new industry known as decentralised finance or DeFi for short. 

DeFi mainly runs on the second largest cryptocurrency network, Ethereum. Ethereum has gone from being a cryptocurrency like Bitcoin to becoming a broader ecosystem for DeFi projects mainly due to the availability of smart contracts. 

Smart contracts are agreements or contracts written in software that are not open to interpretation, discussion or adjustment. 

They execute exactly as per the instructions written into the smart contract and provide an ideal instrument on which to build sophisticated businesses in a trustless environment. 

In DeFi a smart contract sits in the middle as the authority, as opposed to a centralised institution as is typical in traditional finance and most other businesses.

What is Web3?

Web1 was the original bare-bones internet, simple, informational websites mainly. You can get a taste of Web1 by looking at ancient search engines like Lycos, hotbot and webcrawler that are still lurking around on the internet.

Web2 was commerce-driven and spawned the internet giants we all know today, Google, Amazon, Expedia, Facebook and so on. 

Web3 is the new kid in town and one that is creating quite a ruckus. 

Web3 has the potential to truly shake up and revolutionise the world we live in, create entirely new industries and potentially level the playing field, especially in finance. 

In essence, Web3 is the next major evolution of the internet, one that is decentralised and based on peer-to-peer technologies such as public blockchains. 

Take an organisation like Amazon, which is a centralised profit-driven Web2 business, it provides a centralised platform and infrastructure on which things can be bought and sold on the internet. 

In a Web3 world, there is no centralised Amazon, but rather a highly sophisticated blockchain technology using smart contracts that provide the software protocols and required levels of security needed to enable transactions without requiring a physical intermediary. Sorry, Jeff Bezos!

This Web3 model is extending into banking, trading, insurance and more. Just as there was an explosion in commerce-driven websites during the Web2 phase, we are seeing the same again with Web3 and this is presenting investors and novices alike with opportunities to get in early on the Web3 superstars of tomorrow.

Investing in protocols and the fat protocol thesis

Below every significant technology there are usually key protocols. There has been a fundamental shift in the way protocols are being monetised. 

Our current web technology is dependent on protocols like TCP/IP and HTTP and billions of emails rely on POP/IMAP protocols to enable sending and receiving. 

The crucial protocols that have enabled much of the technology we rely on today have been in effect given away for free by the developers who generously created them on an open-source basis. 

They are free to use and exploit and exploited they have been without a shadow of a doubt and one can argue with good effect. Imagine if every email cost money! (more on that later..)

Thin protocols/fat applications vs fat protocols/thin applications

In Web2, there are what are known as thin protocols and fat applications where the vast majority of the value is in the applications built on top of the protocols, think Google, Amazon and Facebook running on top of the core internet protocols. 

The value in Web2 is on the application side, not the protocol side. 

In Web3 this has fundamentally changed and has been flipped around, the protocol is fat and where the bulk of the value is and the applications running on top are on the thin side. 

Bitcoin’s creators cleverly invented a protocol and system that has an inherent value system and which rewards its participants at the core. 

If we were to look at POP3/IMAP, commonly used to send and receive millions if not billions of emails every day there is no financial reward. 

This on the one hand is great as emails remain free, but those that developed this essential protocol did not make a fortune from it. 

As a crypto investor, investing in protocols should be considered in addition to investing in the individual applications that are running on top of the protocols, a fundamental difference when compared to Web2. 

The name of the game is to be able to identify and invest in the protocols and applications of the future. 

There is something called the fat protocol thesis which says that the total value of all the apps running on top of a protocol such as Ethereum will never exceed the total market value of Ethereum. 

Thus according to this theory, Ethereum should continue to grow in value as the ecosystem it supports grows. 

The fat protocol thesis seems to be holding and provides a reasonable rationale on which to invest in protocols/blockchains for the longer term.

Web3 is the gold rush of the 21st century

One can liken the current Web3 boom to that of the famous gold rush of the 1800s. 

The pursuit then was gold and attracted hundreds of thousands of prospectors to California and South Africa. 

In a similar way, DeFi has exploded onto the scene with almost limitless possibilities, unlike gold however which is limited in quantity, DeFi projects are virtually limitless in scope.

However, not all projects will succeed and could be as useless as a hole in the ground so the secret is to know which tokens to pick and invest in and that isn’t easy even for seasoned crypto investors. 

Web3 money markets and how to earn a passive income from DeFi

Speculation is not the only way to profit in the crypto world. 

Just as with traditional financial markets, it’s also possible to earn a modest passive income by putting crypto assets to work. 

With interest rates still at a historical low there is a need for ways in which one can earn a reasonable passive income in DeFi from crypto assets by way of yield farming, staking, becoming a liquidity provider and through the lending of crypto. 

In very simple terms one can use their crypto assets to earn income in the form of fees or interest rather than profit from the growth of the underlying Web3 asset.

Conclusion

In the simplest terms, imagine having the chance to invest in Amazon, Facebook and Google when they were first starting out. Sadly, that boat has already sailed, however, the next generation of Amazon, Facebook, and Google are on the sidelines, fueling up and ready to make an impact. Just as with the web2 era, only a handful will become major players, the challenge is figuring out who the future DeFi and Web3 giants might be and get in on the action early!

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