Defi is in a very special position. Traditional finance includes financial technology. One of the financial technologies is blockchain. There is digital currency in blockchain. Defi is only a very small branch of blockchain digital currency. But this branch is very hot recently, as long as it is impossible not to know Defi in the currency circle. But many people have only heard of Defi, but do not understand what is a real good project of Defi.

For example, you only know that YFI surpassed Bitcoin, but do you know why YFI surpassed Bitcoin? Why did YAM explode? Today I hope to use 1 hour to upgrade you from a beginner of Defi to a relatively proficient.

With a definition, investing and analyzing will not go astray. The definition of Defi is very simple. In a distributed system—that is, what we call a blockchain system—using distributed applications—that is, Dapps—provides a decentralized financial ecosystem. Defi is an ecology, not a single coin or a project.

The particularity of Defi lies in the decentralized distributed finance. The counterpart to this is centralized finance. We want to compare the two and analyze why Defi can flourish and grow so fast.

1. Definition and advantages of Defi

There are many functions in centralized finance. for example:

(1) Legal, compliance, KYC, AML, accountants, law firms;

(2) Exchanges, the China Securities Regulatory Commission, and the China Banking Regulatory Commission shall supervise the exchanges. What exchanges and CSRC do is to match and review transactions, settlement and supervision;

(3) Banks and brokerages. Do escrow, pay, borrow.

(4) Central Bank. Provide currency.

These functions are all implemented in centralized finance. While it works fine, it has many drawbacks. These shortcomings can all be supplemented by Defi.

For example, Defi does not need the central bank, because it has its own digital currency, Bitcoin, Ethereum, EOS, USDT, USDC can be used as the underlying payment means; Defi has smart contracts, and in Ethereum, code is law. So we don’t need legal affairs and judges. As long as there is a smart contract, we can judge which contract can be executed; we don’t need a contract, just write the smart contract and it will be executed automatically when it expires. There is no contract dispute; because it is established in the district On the blockchain, contracts will not be tampered with, and contracts do not need to be kept in notaries and safes; all transactions can be traced, transparent and fair; Defi is born without borders and without intermediaries.

These features of Defi can make up for the shortcomings of centralized finance. For example, centralized finance is difficult to be inclusive. Its transaction cost is very high, the transaction is complicated and the speed is slow, and there are intermediaries such as banks, exchanges, brokers, accountants, lawyers, etc., and they all charge service fees.

Defi is an addition to the future of centralized finance. We cannot say that Defi can subvert centralized finance, which is unlikely, just like it is impossible for ants to shake elephants. But it is very well compensated and tried. It can make up for what centralized finance does not do well in Defi.

2. The meaning of Defi to achieve inclusive finance

In traditional finance, a quarter of the world’s population, about 1.7 billion people, is unbanked. Maybe the bank has not opened branches in the area, maybe it requires a lot of documents and materials to open an account, and there is also a management fee for opening an account, which makes some people do not want or have no way to open an account. However, 80% of the unbanked people in the world have mobile phones and can connect to the Internet. These people may be able to enjoy financial services, that is, Defi. Only decentralized and distributed finance can reduce costs to a minimum. The Internet realizes the popularization of finance.

The actual meaning of inclusive finance is “inclusive” and “benefit”. “Public” means that everyone can participate, and “benefit” means that the cost is low. The investment bank Goldman Sachs may charge dozens or millions of fees. I have worked in an investment bank before, and the salaries of investment bank executives are all derived from handling fees and service fees.

The benefits of Defi doing inclusive finance:
1. The entry barrier is very low. As long as you need a mobile phone and connect to the Internet, you can borrow, pay, make derivatives, and insurance;

2. Reliable. are written into the code;

3. Transparent, open and open. Defi’s opponents, even investment banks, are on an equal footing. No one can have an advantage. There is no information, status advantage, no lower rates, and faster efficiency. It is impossible to do in traditional finance;

4. No counterparty risk. In the past, whoever P2P lends money to, if the other party defaults, they can only rely on the P2P company to collect the debt. If the P2P company runs away and the other party does not repay the money, the money will be gone. In Defi, the form of pawn or mortgage is strictly used to ensure that the other party can pay and repay the debt. At the same time, the smart contract is used for borrowing. As long as the time is up, the oracle machine and the link are added, and the execution will be executed immediately, without any mechanism. Can minimize counterparty risk;

5. Reduce the risk of intermediaries. Defi has no intermediaries, only smart contracts. Costs will also be reduced because there are no intermediaries;

6. Composability. For example, UMA, Synthetix, anything can be used as derivatives, can bet, make contracts, and one person can create contracts. Like Lego blocks. Synthetix recently launched a derivative with Tesla stock as the base. Combinable and programmable is a major feature of Defi, which will make financial products particularly rich, I’m afraid you can’t think of it.

Various characteristics make Defi full of vitality. In September last year, a Defi conference was held in Chengdu, Sichuan, with seven or eight hundred people throughout the day. I also talked about Defi at the World Internet Conference in Wuzhen. If you bought any of the coins issued by Defi at that time, I believe you have become rich now. New things, especially things with potential and vitality, must be concerned.

3. The ecology and development trend of Defi

1. The scale of Defi
In October last year, Defi only had 50 million US dollars locked up. At the beginning of the year, it reached 100 million US dollars. In February and March, it rushed to 1 billion US dollars. Now it has 6.7 billion US dollars locked. Locking is an important parameter of Defi. On Defi, you don’t know who the other party is, so you must mortgage and lock the position. Trading volume is just a parameter. Which market and product can increase a hundred times in volume in one year, only Defi has it.

2. The ecology of Defi
First of all, there must be the underlying public chain. The public chain of Defi is mainly Ethereum. 95% of Defi uses Ethereum, as well as EOS and Bitcoin. Ethereum has smart contracts, and they are widely used. Bitcoin’s smart contract capabilities are poor, although it belongs to the leader of cryptocurrencies;

The second is payment, which is paid in stable coins. Defi has its own stable currency, such as DAI, which is a stable currency specially made by Marker for payment;

It is borrowing again, followed by transactions, which will be divided into normal transactions and derivatives transactions;

The other is wallets and brokers, exchanges, as well as oracles (insurance) and gambling. The oracle is to provide a data interface, so that the data occurring in the real world can be connected to Defi’s financial products;

The last is asset management and financial management.

The other is relatively niche analysis tools, collection tools and aggregators. KYC, etc., you can find it on Defiprin, the project is the most complete.

3. How to participate in Defi
The easiest steps are six:

Step 1: Build a wallet first. I use Metamask, which is universal and everyone will use it.

The Metamask wallet is very convenient, but some people like to use the wallet of the exchange. At present, the only exchanges that provide Defi services are Coinbase, but I don’t know if the three major domestic exchanges are connected.

The Defi circle is ten times faster than the currency circle. Some people joke that traditional finance is the same for ten years, and nothing changes in ten years. Fintech is a little faster, and the currency circle is much faster than financial technology, so there is a “one day in the currency circle, one year in the world”. After Defi came in, the currency circle became a classical currency circle, and Defi changed faster.

I saw a while ago that only Coinbase can use wallets to connect Defi projects. I wonder if the three major exchanges have caught up now. Now the exchanges are under a lot of pressure, and a lot of business has been taken away by Defi.

Wallets include real wallets, wallets linked to bank accounts, such as WeChat and Alipay, and wallets for the central bank’s digital currency after the central bank’s numbers come out, as well as hard wallets and soft wallets provided by wallet services, as well as digital wallets. Wallets offered by currency exchanges, and finally wallets offered on Defi services.

Defi wallets store encrypted assets. This is not the core. The core is whether it is self-management or custody, whether it is to be managed by others or managed by yourself. The advantage of Defi wallet is that it is managed by yourself, which is more secure. If it is placed on the exchange, what if it is hacked? If it is lost in the bank, there is usually compensation, and if the exchange is hacked, there is usually no compensation. From the perspective of convenience, it is more convenient to put it on the exchange, but the security is relatively poor.

The second step: recharge, you need to recharge from other wallets, generally the most used is ETH, you can also recharge USDC or USDT. USDT is not very easy to use in Defi, it seems to be despised.

Why do we use the DAI stablecoin in Defi instead of USDT? Because everyone is worried about USDT. Stablecoins are created because digital currencies are too volatile. The reason for using digital currency is that legal currency has always been inflationary, indiscriminate, unlimited, depreciated, and limited by national boundaries. Therefore, because fiat currency has so many shortcomings, with digital currency, the volatility of digital currency is too large, and there is stable currency, and stable currency reserves are insufficient. Everyone was worried about USDT, so they had to make a stable currency DAI in Defi.

DAI has full (excess) collateral, relatively transparent auditing, distributed management, and there is no risk of running away. Make up for the deficiencies of other currencies. The size of DAI is now $400 million. USDT has 10 billion US dollars, and it has been issued all the time, desperately.

DAI is a pawn stablecoin issued by Marker, a pawnshop. People who go to the pawnshop want to borrow money, and they need to mortgage an item, such as a Rolex watch, which is worth 50,000 yuan, lends 10,000 yuan, and comes back in three days to redeem 12,000 yuan. DAI is just like a pawnshop. One person mortgages ten Ethereums on Marker and lends 2000 DAI. After ten days, I may have to pay back 2050 DAI and 10 ETH back to me. DAI is a pawn stablecoin issued by Marker and collateralized by digital currency. At the beginning of the issuance, only BAT and ETH could be mortgaged, and now it has expanded to more than a dozen currencies.

There are several important data when mortgage, one is mortgage rate. For example, ten ETHs are mortgaged, worth $4,000, how much DAI can you take out, 50%, 60%, but it is impossible to reach or exceed 100%. The pawn mortgage rate will be less than the value of the mortgaged assets; the second is the lending rate; the third is the clearance rate. If the market value fluctuates too much and triggers a certain critical point, the mortgaged coins will be taken to clearance. This is the same as leverage, because the volatility is too large and the position is cleared by the exchange. Pay attention to these data when exchanging mortgages for stablecoins.

The third step: is to choose the way and project you want to participate in. For example, investing, borrowing, managing wealth, buying insurance, and trading derivatives. After you choose which website to open, you will be asked if you want to connect to the wallet. Connecting to it will usually lock you up.

Lending is the most primitive financial activity of human beings, and if there is finance, there will be lending services. Lending is also the biggest product of Defi. In the past, loans could only be borrowed from banks. The emerging consumer loans, P2P, and online loans came out. However, P2P has been destroyed by the group and has been subject to many policy restrictions. The judicial upper limit of private lending interest rates has been reduced from 24% recognized by the court to 15.4% , is also difficult to do.

Defi has many innovations to solve these problems:

1. Degree of difficulty. To borrow money, the biggest problem is that the more money you are short of, the less people will dare to lend you. The richer the bank, the more willing to lend you. Dislike the poor and love the rich. People who are really short of money usually can’t borrow money from the bank. Consumer loans and online loans also require review and credit records. Defi does not need these, because it is relatively easy to use digital currency as collateral.

2. No KYC is required, it is transnational. Any other loans can be cross-regional, but still within the country. Only fiat currency can be limited, and it is impossible to borrow US dollars.

3. Dynamic adjustment of interest rates. None of the other borrowings can be dynamically adjusted with the market. Because Defi uses smart contracts and algorithms, it can calculate the interest rate at this moment and the interest rate at the next moment at any time.

4. The cost of borrowing is very low. Because there is no intermediary and counterparty risk. But here only refers to the borrowing fee, and the gas fee for the transfer fee to the miners is getting higher and higher. This is not because of the Defi project, but because the Ethereum GAS fee is as high as 10%, which is more ruthless than the bank.

One of the more well-known projects in lending is Compound, whose liquidity mining token COMP has ignited the enthusiasm for this wave of Defi, and the other project is Aave, which has grown very fast (the latest data Aave has ranked first in terms of loan volume) Compound is the absolute boss. Their borrowing rates sometimes vary.

Aggregators are also popular now, and logging into the platform can glue all lending platforms together.

The fourth is lock-up and mortgage. Generally, it is how much Ethereum is locked, and there will be some handling fees in the middle.

The fifth step is to see that there is a reward or risk, and exit with a profit.

The sixth step is that you initiate redemption, release the locked coins, and calculate the interest to be paid or the income to be harvested.

These steps are easy and simple, and difficult. I am a veteran of the currency circle, and I have also read a doctor of finance. Looking at Defi’s financial derivatives, I think it is very creative, and there are many points to dig deeper. The current society is to reward people who know how to dig deep and try to eat crabs.

In the classical currency circle, exchanges are the most profitable, and Huobi, Binance, and OK are the top three. But they have many drawbacks. One is that all coins are placed on the exchange, which will lead to hacker attacks, and there will be more or less incidents of the Mentougou exchange being hacked; the second is the handling fee. Suppose a small coin is not available on one exchange and needs to be bought on another exchange. Then go to Defi, there are three to four steps in the middle, and you have to pay for each step. Transactions and transfers require fees.

For exchanges in Defi, as long as you find an opponent in the liquidity pool, you can exchange them directly, turning the four or five-step handling fee into one step. The handling fee is relatively cheap, and the accounts are managed by themselves, not on the exchange, which is relatively safe, fair and equitable.

The exchanges in the currency circle open derivatives, and everyone is worried about the situation of pins. Because it’s centralized, maybe it’s downtime, maybe it’s intentional, I don’t know. But it is impossible for a decentralized exchange to manipulate prices. Therefore, decentralized exchanges are becoming more and more popular. Last year, major exchanges despised Defi, believing that without liquidity, it could not be done. But I didn’t expect that there will be a liquidity mining model this year, and the liquidity has risen, and the coins of the Dex exchange are flying into the sky. To put it vulgarly, the exchange is a “casino”, and it is guaranteed to make no loss, so the exchange token will have such a large appreciation.

DeX can suck the traffic of classical exchanges to Defi. Defi lock-up volume can range from tens of millions last year to billions this year. Where does the money come from, it should not be new funds, but existing and existing funds. It is from the original exchange wallet. Centralized exchanges have been seriously injured in this wave of Defi craze. So they all follow up, and follow up by setting up funds and other means. They know this is where the big money is looking, and it’s dangerous not to keep up. OK did it pretty fast.

The largest Dex exchange is Uniswap, and everyone should pay attention to the issued coins. Curve is emerging.

Let’s briefly talk about derivatives exchanges. The advantage is that they will not be monopolized, and you can design any derivatives you want. In traditional finance, derivatives can only be designed by investment banks and exchanges, and trading is done by large institutions. Defi has lowered the threshold to a very low level, and anyone can make derivatives or even design derivatives. Synthetix, just mentioned, is doing the best in derivatives. Tesla’s derivatives will be launched recently, and you can use currency to go long and short Tesla’s stock. Apple stock, gold, foreign exchange, Nasdaq index can be exchanged on Synthetix.

Because derivatives are off-chain assets and require a fair person to provide price standards, Chain Link appears. This is also the reason why it has become the fifth largest currency by market value and has been so popular recently. The expansion of exchanges and the popularity of Defi have put oracles and data providers in the spotlight, pushing the market value of Chain Link to a high point. In fact, Chain Link has been around for many years. Chain Link’s current market cap is $5.8 billion,

YFI is an aggregator. You can see which ones have higher interest rates and better liquidity, and can be used as wealth management products. You can invest in whichever one is better. I call it a financial aggregator.

4. Risks and Inspirations of Defi

1. Code Risk
Someone recently bought YAM. If they got in late, they would lose a lot of money now. Many times because smart contracts are too transparent, all the code is on it. If code auditing is not done, some vulnerabilities will create technical risks. YAM is a problem with the code. It returned to zero within 37 hours and fell by more than 90%. Once again it shows that Defi’s code is very risky.

In February of this year, BZX, a project in Defi, lost more than 4,000 Ethereum because hackers found a code loophole, and the price at that time was almost 1 million US dollars. So be careful when you try it. Defi is still very new.

2. Liquidity risk
The most obvious case is that on March 12, Bitcoin fell sharply, the currency circle fell sharply, and all locked positions were liquidated. But in March, the overall lock-up of Defi was less than $1 billion. Now if there is a huge volatility, there may be huge liquidity risk. Everyone be careful. Before you make money, think about whether to lose money. Survival is the secret to winning in the currency circle. A lot of people make a lot of money, but lose a lot in a month or two.

3. Operational risk
Due to operational errors, anyone will have this. Because Defi supervises the wallet by itself. Don’t forget your password. The Metamask wallet uses twelve mnemonic words, and no one can save them if they forget them.

4. Inspired by Defi
Defi is on the rise now, the trend development is greater than the risk, and Defi is out of the circle. Derivatives exchanges are actually tools out of the circle, allowing all assets off the chain to be linked to the chain to make derivatives.

Defi can serve the real economy. We have always said that the currency circle is a zero-sum game, but if Defi can connect real assets, it can generate real value, and it will not think of ICO as a pure cut. Defi has real projects whether it is liquidity mining or its own coins.

Defi’s size is huge, and size speaks for itself. The volume has reached 6 billion, and it is estimated that it will continue to rise;

Defi increasingly involves low-level knowledge in finance and technology. If you don’t understand, just do storage and borrowing, and don’t touch derivatives. It is best to do professional things with professional knowledge, not AII IN you do not understand, in case of liquidity risk. When you see those who make money, you must also know that they are making money at the risk of the above. Higher risk means higher return.

For developers, make user-friendly applications. Defi has become relatively convenient this year. However, the transaction fee is still very high. Although the project party does not charge very high, the gas of Ethereum is unbearable.

Influence on exchanges, derivatives contracts, wallets, assets, and spot transactions of classical exchanges will be affected by Defi. If you do an exchange yourself or work in an exchange, you really need to transform, follow Defi.

Domestic people are a little slow in Defi, and foreign countries have studied Defi very early. I wrote an article on Defi a year ago, and I read all foreign materials, and the same is true now. Because there is a lot of currency speculation in China, there are few projects to do. I haven’t seen any Defi projects in the top ten that were made by Chinese. Doing projects abroad is indeed much more focused and innovative than us. I hope that good Defi projects in China can also be launched as soon as possible. Because there are a lot of people in the country who are hyped and chased, it should be very big from time to time.

In the future, when DCEP comes out, it is not ruled out that Defi can be integrated into it. Of course, government regulation may not allow it, nor will it be willing. But Defi is a system that can use various currencies as the underlying exchange. In the future, it is entirely possible that the central bank’s digital currency will become the underlying currency of Defi. Or Libra. Because Defi is inherently open and does not exclude any underlying currency. Bitcoin, Ethereum, EOS can be used, as long as they have smart contract functions, they are compatible.

5. Interactive Q&A

1. Defi’s IDO has also become popular, but various Defi projects are uneven. How do you view this phenomenon? Will IDO eventually become an ICO?

Very well mentioned. There is nothing at the bottom of the ICO. Anyone can publish a white paper. But Defi distribution really needs a foundation. Several large sums issued now, Link, COMP, and Curved all have real application scenarios. It will not be as empty and empty as ICO. An IDO is a tier above an ICO and isn’t even a securities offering. The coins issued by Defi are more use functions than securities functions, and use more attributes than equity attributes.

If Defi will be regulated in the future when it gets bigger, it may even be a public token issuance, just like Ethereum. I don’t think IDO is a piece of shit in the end, and the threshold and underlying mechanism are different.

2. Defi is popular, but it will cool down after a long time. How to maintain the popularity? Public chain fees such as EOS have more advantages than Ethereum. Why is Defi concentrated on Ethereum?

As I said just now, compared with the traditional classical currency circle, Defi is hotter, and the time required for each hotspot to change will naturally be shorter. Because it is an emerging product, everyone is very concerned about it. But because it is open, there are always new projects rushing out. Everyone is in the era of rushing, and no one can monopolize the market. Just like Compound last year when I talked about Defi, it was already the number one spot, but now it has been surpassed. It is certain that the popularity of hot spots will change quickly.

How to maintain it To put it bluntly, the rising price of the currency will definitely maintain. But it really depends on the users in the end. The more users there are, the less the handling fee will be, and the more real products it will bring to you, the longer it will last. Liquidity mining is just a hot spot. Hot spots should also be fried, but when the hot spots pass, everyone still has to fight for strength. If you do a good job of strength first, then go to the hot spots.

The foundation of other public chains is not as large as that of Ethereum. The originator of smart contracts is Ethereum. One of the most important features of Ethereum is that it has the potential to become the second futures product listed on a US exchange. Bitcoin has been recognized by the traditional financial community and has been listed in futures. Ethereum has the potential to be the second. Because decentralization is done very well, it may be regulated by the United States as a futures product.

The ecosystem of Ethereum is definitely larger than other public chains, and there is definitely a head effect. At present, 95% of Defi uses Ethereum, which will produce the Matthew effect of the strong and the strong. Everyone uses Ethereum as the bottom layer, and other public chains are just options. The trend of diversion is not obvious, and it is not easy for other public chains to catch up.

3. How to solve the high gas of Ethereum in the future?

I also wonder why gas is getting more expensive. I think Ethereum should be upgraded to 2.0, if the bandwidth can be increased. If not, in the long run, it will damage the momentum of Defi development. Then other public chains will have a chance. While 2.0 may take a while, at least there’s a direction I’d be willing to wait for. But if GAS is still expensive after 2.0 is implemented, it will be abandoned. Let the market decide.