DeFi 101: Things You Need To Know About Decentralized Finance
DeFi or decentralized finance is a movement that is really changing the way the financial system works.
There are three principles of the DeFi movement that are:
- ● Interoperability and open-source: this basically means that the various DeFi or decentralized applications can communicate with each other and create complex and more robust systems with code that is open to all.
- ● Accessibility and financial inclusion: unlike centralized finance or CeFi, for short, anyone with a device having internet access can take advantage of DeFi applications.
- ● Financial Transparency: since DeFi is based on blockchain, and knowing that blockchain can basically be understood as an open ledger, this means that anyone can easily check and confirm all transactions.
Unlike the traditional financial system, which uses technology only as a facilitator of transactions controlled directly by a middleman, DeFi uses technology precisely to eliminate the middleman from financial activities.
The advent of DeFi was only possible through the innovative blockchain technology. In fact, DeFi is based on highly encrypted, open-source, and smart contracts.
Well, smart contracts are a characteristic that some blockchains have to allow the creation of immutable, self-executing, automated code contracts.
In the traditional centralized financial system, we are forced to sign a piece of paper and hope for the best. Expect the other party of the contract to abide by the terms.
Now, when it comes to smart contracts, the pure logic of the code will only execute the transaction if both parties actually meet the conditions.
This has made possible the arrival of this new type of finance that we know as DeFi. This has removed the human element, which is susceptible to mistakes, corruption, and greed, for the mathematical certainty that everything will occur as predicted.
The decentralized financial instruments of the DeFi ecosystem are known as decentralized applications or dApps. Unlike centralized applications that rely on databases governed by a strict group of authorities, such as Uber, Netflix, and Facebook, or applications from a centralized bank, dApps make use of smart contracts with blockchain technology to distribute data in encrypted form over a huge peer-to-peer network. This prevents censorship, dictatorship, fraud, and errors.
The dApps universe has just begun to be explored and is already taking over the CeFi space. In fact, it is possible to create games, social networks, video streaming platforms, exchanges, and even decentralized autonomous organizations (DAO), all in a decentralized, censorship-resistant, open-source, and tamper-proof way.
Crypto Security Tips
Now, before you start investing in tokens and cryptocurrencies, you should take note of a few things. First of all, you have to know that your assets are stored in wallets, be they physical or digital. There are many options for digital wallets, with different security standards. It is recommended that you give preference to wallets with two-step verification. Another very important factor is a strong password that withstands brute-force attacks. The best passwords are those that combine uppercase and lowercase characters, numbers, and special characters. Remember that a strong password is the first security layer of your investments.
In addition, when talking about crypto wallets, we have to remember that there is still another way to access them that doesn’t require you to know your password, through the seed phrase. A seed phrase is usually a random string of 12 words that can be used to access a wallet in case the owner has lost the password. Remember to write it down and keep it in a safe place. Some more cautious people prefer to write it down on a metal plate to prevent deterioration over time, but in general, it is not necessary to go that far. Writing it down on a piece of paper and keeping your seed phrase in a safe place is enough if you don’t deal with large amounts of crypto assets.
It is also recommended to split your portfolio into different wallets. This ensures that if an attack succeeds on one of your wallets, you will not lose all of your assets. It is good to remember that the passwords for these different wallets should also differ from each other. It is pointless to distribute your assets to more than one wallet if they all have the same password. So have strong and different passwords for each wallet. Feel free to write them down and keep them in a safe place to avoid loss in case you forget them.
There is still another common form of attack that you should be aware of: phishing. Phishing is a form of attack that is based on trying to get data through a program or page that meticulously imitates an original application.
An example could be an extension that imitates MetaMask, an application that allows the creation of digital wallets. You could inadvertently put your password into this malicious software thinking you were putting it into the original application and end up sending it to malicious actors.
So always check the sources of any crypto applications you decide to use. Always install them from the official website to decrease risks. Another important tip is to always check the link of the website you are accessing to make sure that it is indeed the official page and not a phishing page. Do the same with e-mails you receive, always checking the sender.
A last piece of advice regarding crypto portfolio security is to avoid accessing your wallets and making transactions when connected to public networks. It is always a good idea to use your home network or a network you trust, and always use a VPN to add an extra layer of security.
Tokens, Cryptocurrencies, and how to get them
The way we interact with the DeFi ecosystem is through tokens and cryptocurrencies. Token may be a term you may have heard somewhere, but you may not know exactly what it is.
So, Token is a crypto asset and represents a certain unit of value. They are native to a blockchain and can be tradable and transferable between the participants of that same blockchain. As a unit of value, we can use them in various ways for different applications.
A token can be used, for example, as a crypto-currency to pay or receive goods and services. But the ways in which we can use tokens are diverse.
They can be used as a voting unit in a decentralized organization, can be exchanged for hours of video in a video streaming dApp, and can represent a cryptocurrency from one blockchain on another blockchain, for example representing Bitcoin on the Etherium blockchain, making it possible to exchange assets between two different blockchains that would otherwise not talk to each other.
Cryptocurrencies are a standard currency used primarily for making transactions on a blockchain. By far, the well-known cryptocurrency is Bitcoin. Note that you can also make payments or receive payments with tokens. However, the usability of tokens goes far beyond this.
DEX and CEX
Now, how can you buy tokens and cryptocurrencies? Well, the simplest way to get them is through crypto exchanges. There are basically two types of crypto exchanges, centralized exchanges (CEX) and decentralized exchanges (DEX).
The difference between CEX and DEX is that in a centralized exchange, you need to rely on an intermediary. On the other hand, DEX uses Smart Contracts. Through them, you send your tokens to be verified by the smart contract code and it automatically operates the transaction and sends your assets directly to your wallet, with no intermediary.
What is Liquidity Pool in DEX and what is it for
Something you will hear a lot of in DEX is “liquidity pool”. But what does it mean? Well, in order to exchange one token for another, there must be buyers of the token you want to sell and sellers of the token you want to buy. Not only that, but it is necessary that sellers and buyers agree on a certain price. In this scenario, sellers will always try to sell their assets at the highest possible price and buyers will always try to buy assets at the lowest possible
price. This can create instability in transactions, making them very expensive and time-consuming. To solve problems like this is why liquidity pools exist.
A liquidity pool is, as the name suggests, a pool that accommodates a portion of both tokens in a pair to provide liquidity to the pair, making transactions cheaper and faster. It works based on an algorithm called automated market maker. It is through the liquidity pool that we can trade a pair without necessarily having to wait for a counterparty.
Users of a DEX are encouraged to create and participate in liquidity pools, making a profit by fees. Here’s how it works: when a new pool is created, the liquidity providers (LP) are encouraged to supply the same amount of both tokens in the pool at a price convergent to the market price. By adding liquidity to the pool, you earn LP tokens according to the amount of liquidity you have added.
Whenever a trade is facilitated by the liquidity pool, a portion of the fees is proportionally distributed to the pool members. The automated market maker algorithm changes prices according to the supply and demand of the tokens and maintains a more or less constant amount of both tokens in the pool.
When a liquidity pool member decides to withdraw the tokens he has added to the liquidity pool plus the fees he has received in the process, he simply burns his LP tokens. This process is one way to make passive income in a DEX.
If you want to get your crypto assets through an easy and safe way, without intermediaries, you should definitely check out Goosebumps DEX. It is a very easy-to-use platform and is designed for both those who just want to purchase a small amount of tokens and also for experienced traders that deal with large numbers of them.
Goosebumps offers a variety of tokens for buying, selling, and trading. It allows you to track the movements of your assets on charts and quickly get an overview of the positions you have bought or sold and where the price is going.
For traders, Goosebumps offers a variety of charts that can be opened simultaneously on the same page with all the technical analysis indicators you need, stop-loss feature, and smart notifications that alert you about abrupt price changes on your assets in an amazing portfolio tracking system that accepts multiple wallets.
If you still don’t want to take risks and make a great passive income, Goosebumps is definitely the best place. You can buy tokens and invest them in risk-free applications like Staking Pools, Lending Pools or add liquidity to collect a nice portion of the fees from the transactions made on that token.
Well, guys, this was a short introduction to DeFi, and some concepts related to this wonderful world of decentralized finance. I hope you have learned something new today. Keep learning!