Visualizing the Future of Crypto Lending
Hodling is great. It can deliver significant returns given enough time and patience. But what if you could grow your crypto assets while hodling at the same time? Or release some of the value into stablecoins without selling your crypto? That basic premise has led to an explosion in crypto lending services, enabling hodlers to receive interest payments on their stack or to use it as collateral for a loan without giving up the underlying assets. Even for those who find crypto volatility off-putting, stablecoin assets generate some of the best returns.
What makes this particularly attractive is that the APYs are heading into double figures for some platforms and tokens — multiples higher than traditional bank savings rates that have fallen to practically zero. On the flip side, loans can provide hodlers with a means of unlocking some value without causing taxable events and selling the assets, with flexible repayments, near-instant availability, and no credit score or assessment criteria. Let’s take a look at the evolving landscape to see what crypto lending has to offer.
Crypto Lending Landscape
Two main types of crypto lending platforms have developed in the space — centralized and decentralized, or to put it another way, businesses and protocols.
Centralized Lending Platforms
Several centralized or CeFi business solutions evolved in recent years. Examples include BlockFi and Unchained Capital, plus lending services from established exchanges like Binance. Other CeFi crypto lending solutions like Celsius Network and Nexo are different in that they also have their own tokens running on decentralized networks. The lending services themselves are still managed by centralized entities, though.
CeFi loans differ from traditional finance in that they are over-collateralized. Over-collateralization requires users to post crypto assets with a higher value than the loan, often multiples greater, to reduce the risk on account of crypto volatility. For example, loans of 25%, 33%, or 50% of the collateral deposited are commonplace, depending on the asset and risk modeling.
Centralized lending platforms operate more like fintechs, requiring users to register accounts and verify their identity through KYC (Know Your Customer) procedures due to regulatory constraints. This can slow down the process compared to decentralized counterparts. As an intermediary, they generally take custody of assets too. Assets are secured via their own cold storage solutions or third-party digital asset custodians to protect client funds. Some will also offer insurance services for additional peace of mind, and others multi-signature custody split between customers, custodians, and the platform itself, delivering greater control and transparency for clients. CeFi platforms can be easier to use, offer high returns and lower borrowing costs through their investment strategies, and appeal to more traditional investors with regulated platforms and customer service teams.
Decentralized Lending Platforms
Providing an alternative to centralized crypto lending, many decentralized or defi lending platforms have also evolved. These are the protocol solutions relying on smart contracts to automatically administer loans and interest payments, rather than introducing intermediary businesses, more in line with the crypto ethos of peer-to-peer networks. Examples include Compound and Aave that offer variable interest rates determined purely by the supply and demand for an asset on their platforms. Some solutions like Maker have a decentralized governance system that determines interest rates instead, however.
Like their centralized crypto lending counterparts, most loans are also similarly over-collateralized, automatically liquidated if the collateral ratio falls too low. DeFi provides the opportunity to be more innovative, though, with options developing like flash loans. These allow the borrower to access all the free liquidity on a platform, use it for executing other operations, then pay it back in full within the same transaction. Arbitrage experts, for example, use flash loans to compose atomic operations and move collateral between platforms within the same transaction. Another emerging defi innovation is under-collateralized loans that could truly disrupt the traditional market. Although this seems farfetched given the volatility of crypto assets, under-collateralized and uncollateralized loans could be enabled through credit delegations on platforms like Aave, which essentially work as a guarantor system, covering under-collateralized loans in case of default and charging a fee for the privilege.
Decentralized lending platforms deliver a permissionless and non-custodial alternative to CeFi solutions, with far greater control and transparency over funds. Anyone can access these platforms 24/7 with no barriers like KYC procedures, no restrictions on the size of loans, and no paperwork as there are no intermediaries or regulators to navigate. As such, execution is far quicker and more flexible, though rates aren’t always as good as on centralized platforms. While non-custodial, users send funds to smart contracts that provide proof of ownership in return. Security is the principal concern, therefore, as protocols cannot be guaranteed to be free from vulnerabilities. However, well-known platforms have audited smart contracts verifiable by anyone, and decentralized insurance for capital is also available. Another criticism is that defi lending is generally confined to one blockchain, predominantly Ethereum. A new project may be about to change that.
A Multi-Network and Multi-Asset Crypto Lending Future
So far, DeFi lending protocols have been generally confined to the Ethereum ecosystem, restricting the type of assets used and creating a market disadvantage compared to CeFi lenders.
Shadows Network, is developing a solution to this, creating a hub for lending and borrowing synthetic assets based on the Substrate blockchain framework, making it compatible with the Polkadot multi-chain network.
Synthetic assets are tokenized versions of real assets, underwritten by the native DOWS token on the Shadows Network and issued by locking DOWS collateral into a smart contract. What’s different is that DOWS supports a wide range of synthetic assets such as stablecoins (xUSD), other cryptocurrencies (xBTC, xETH, xDOT), as well as traditional financial products (xGOLD, xTSLA). Therefore, thanks to the cross-chain nature of Polkadot, Shadows will also support cross-chain asset synthesis, lending, and borrowing, opening the door to new potential markets and users for crypto loans and beyond.
For any questions, you can reach out to Shadows Network via: