Liquidity mining focuses on obtaining high returns, and the purpose of staking has also expanded from helping the blockchain network to remain secure to staking tokens on a given platform to earn returns.
Original title: “Liquid mining and pledge, the two concepts have a tendency to merge? 》
Written by: ChinaDeFi
As more and more cryptocurrency platforms provide attractive returns of more than 1000%, regulators, financial institutions, ordinary investors, and now billionaires will certainly say an old and very irritating phrase if It looks too good to be true, then it is probably true.
We are referring to the world of liquid mining and staking.
Let us explain the meaning of these terms and take a look at the meaning behind these terms to assess whether liquid mining and/or pledge should be a legitimate investment of concern to investors.
Pledge
Staking is a mechanism derived from the consensus model of proof of rights and interests, and is an alternative to the energy-driven proof-of-work model (users mining cryptocurrency).
Both centralized and decentralized exchanges allow users to invest in their assets without having to deal with the technical issues of establishing nodes. The exchange in question will handle the verification part of the process on its own, and the only job of the pledger is to provide assets.
Its main purpose is not to provide liquidity for the platform, but to ensure its security by improving the security of the blockchain network. The more users pledge, the more decentralized the blockchain, and therefore the harder it is to be attacked.
Although pledge is often associated with the proof-of-interest network, it already has a life of its own. Many crypto projects have used pledges as a way to create “stickiness” on their platforms. By providing users with a way to earn income by holding tokens, this prevents them from transferring funds to another platform. In any case, this is the theory. Of course, high returns have another effect. They encourage investors to buy tokens, leading to scarcity and pushing up prices.
The pledge income is provided in the form of interest paid to the holder through tokens. Rates vary by network and platform, depending on several factors including supply and demand.
Due to attractive returns for investors, cryptocurrency staking has recently become more and more popular. Currently, the interest rates provided through pledges range from 6% per year provided by well-known networks such as Ethereum (ETH) and Cardano (ADA) to more than 100% provided by platforms such as PancakeSwap (CAKE).
The risk of pledge
The pledge return of cryptocurrency is not without risk, because a variety of factors may affect the performance and security of the pledged tokens.
The first risk is that a network security incident may occur, resulting in the loss of tokens held. This situation happened recently in the Pancake Bunny project, which was a very successful project, but a large-scale attack caused the price to plummet by more than 90%.
Another risk of pledge comes from the potential decline in the price of encrypted assets during the pledge. Since the pledge is carried out by locking the tokens, investors will not be able to realize the assets they hold when the market drops, leaving investors with the risk of losing part of their principal and not being able to sell them to mitigate their losses.
case study
Polywhale (KRILL)
On April 29th, we listed Polywhale as a project worthy of close attention. Polywhale is the first and largest decentralized liquidity mine on Matic. It has accumulated a total value of 75 million US dollars locked in and quickly upgraded to more than 300 million US dollars in just a few weeks. This is driven by more than 1000% APR. Its market value is 35 million U.S. dollars and the token price is 133 U.S. dollars. This project looks like a good deal. Within a few days of our prompt, the price rose to $237. But then prices began to fall. In less than two days, the price dropped to $62, and it is now only $0.17. Of course, as prices fall, TVL will also fall. Now this figure is a mere US$2 million.
In the case of Polywhale, this means that the risk of chasing high APR is high. The higher the annual interest rate, the greater the risk. What Polywhale shows is that when asset prices start to fall, high returns create some degree of stickiness, and investors become loyal.
Liquidity mining
Liquidity mining refers to the practice of collateralizing or lending cryptocurrency assets to generate high returns or returns in the form of additional cryptocurrencies. Due to various innovations, this kind of decentralized finance application has gained popularity recently. Liquid mining is the biggest growth driver of the current DeFi industry.
In short, liquidity mining incentivizes liquidity providers (LP) to hold or lock their encrypted assets in a liquidity pool based on smart contracts. These incentives can be percentages of transaction fees, interest to lenders, or governance tokens. As more and more investors inject capital into the relevant liquidity pools, the value of issued returns has risen.
When liquidity mining participants receive token rewards as additional compensation, liquidity mining occurs and becomes prominent after Compound releases its COMP governance tokens to its platform users.
Most liquid mining protocols now reward liquidity providers with governance tokens, which can usually be traded on centralized exchanges like Binance and decentralized exchanges like Uniswap.
By introducing governance tokens and away from proof of equity, there is some crossover between equity investment and liquidity mining.
The risks of liquid mining
Liquidity mining usually requires a higher Ethereum gas fee, but with the popularity of the Binance Smart Chain and its lower gas fee, the opportunities for investors have increased.
When the market fluctuates, users will also face greater risks of impermanent losses and price declines.
Due to the possible loopholes in the smart contract of the protocol, liquidity mining is vulnerable to hacker attacks and fraud. The occurrence of these coding errors may be due to fierce competition between agreements, in which time is the most important, new contracts and functions are often unaudited, or even copied from competitors.
There has been an increase in high-risk agreements to issue meme tokens that can provide thousands of APY returns. Many of these liquidity pools are scams, and the project party takes out all the liquidity from the pool and disappears with the funds.
case study
Tedd.Finance
Tedd.Finance is one of the latest memetic tokens, providing more than 100,000% APY, which is obviously achieved by investing in mining pools. In their short history, they have successfully accumulated more than $500,000 in TVL. The highest rate of return on their website is 17,200%. Of course, this is a new project, and investors pledge that if necessary, they will be able to quickly liquidate their tokens. But it seems not easy.
Impermanence loss
When investors provide liquidity to the liquidity pool, and the price of the deposited assets changes from when they were deposited, temporary losses will occur. The greater the change, the greater the loss of impermanence.
A pool containing assets (such as stablecoins), if the price range is relatively small, there will be fewer impermanent losses.
Impermanence losses can still be offset by transaction costs. For example, pools exposed to impermanent losses on Uniswap can be profitable due to transaction costs.
Uniswap charges a 0.3% fee for each transaction that goes directly to the liquidity provider. If the transaction volume of a particular pool is large, even if the pool faces severe impermanence losses, it is profitable to provide liquidity.
case study
YAM agreement
The YAM protocol is a DeFi protocol launched in August 2020. YAM tokens should be kept at par with the U.S. dollar and used for on-chain governance.
The YAM team stated that they created the YAM agreement in just 10 days. The team also warned that there has been no formal audit of the Yam agreement. Within one hour of its launch, the YAM agreement received an investment of US$76 million. In 24 hours, nearly 300 million U.S. dollars. The YAM token hit an all-time high of $167.72.
Soon after YAM hit a record high, the YAM team discovered a major loophole in the agreement. They announced that if the community locks 160,000 YAM in the governance proposal smart contract, voting will allow them to perform bug fixes.
However, after proposing the 160,000 YAM required to implement the proposal, the team admitted that they found a flaw in the smart contract that fixes the vulnerability and there is no way to solve the problem.
The YAM team announced that the project has died. The life span of YAM does not exceed 48 hours. The YAM token fell to US$0.81, a 99.4% drop from its all-time high.
Current pledge and liquidity mining APR table
Risk means that risk is relative. The risk assessment on this table is based on the relative risk of holding cryptocurrency as an investment. As an investment, cryptocurrency is risky. For example, compared with investing in newly minted meme coins, the risk of staking through Coinbase is low, but compared with other investment categories, the risk is still high.
Another important point to note is that although a platform may be rated as low risk, investors must remember that the higher the return provided, the higher the risk. In other words, low-risk platforms can provide high-risk investments.
to sum up
Staking and liquidity mining used to be two completely different worlds. However, in the recent period, the two definitions have tended to merge. Although liquidity mining focuses on obtaining the highest possible return with the goal of creating liquidity, the purpose of staking has expanded from helping the blockchain network remain secure to staking tokens on a given platform to earn returns.
There are liquidity mining and pledge positions in cryptocurrencies, but investors must be aware of the risks and avoid the temptation of high APR. Platforms such as PanckaeSwap use their share of fees in their capital pools to justify their generous returns. Other projects that provide a lot of APR are not so lucky. They don’t have the huge community that benefited PancakeSwap, the depth of the product, and the huge transaction volume that allows them to generate a huge income stream.
Many new projects are pony tricks that use high APR as the only trick. The prices of these tokens are inevitably linked to their TVL. TVL has pushed up the price of tokens and allowed them to continue to offer generous prices. But once the price weakens, it will begin to fall, and the rate of decline may be very fast, as seen in the two case studies above.
Before investing through any pledged or liquid mining platform, the transaction volume and liquidity of the pledged tokens must be evaluated. Liquidity is necessary. It must also be considered whether the project has more depth than a simple pledge platform. There have been many meme-type projects recently that have provided coveted rewards but without fundamentals.
