DeFi borrowing or how to get liquidity without selling your crypto

Beginner Jun 7, 2021

borrowing
Key Takeaways:
— Decentralized finance (DeFi) opens up the world of finance to the everyday person. With peer-to-peer lending, it’s possible to borrow money without the headache and hassle of traditional loans.
— Peer-to-peer lending benefits both the lender who can earn interest from their role in the lending, and the borrower who can get a loan with better rates than through traditional loans.
— Lending pools are used to facilitate DeFi loans and each lending pool has a different approach to the borrowing and lending process, so in-depth research is advised before committing to a platform.

Wondering how DeFi borrowing works? turns out you can borrow without having to sell your crypto.

Finance is rapidly evolving. With decentralized finance, economic access has been opened up to everyone. The era where corporate executives and bankers ruled the market is shifting and now there’s a call towards democratized finance, moving the power back to the people. And leading this revolution is decentralized finance. With blockchain, peer-to-peer lending and borrowing is a process made not only possible but just so much better than traditional lending.

DeFi loans – An unprecedented financial freedom

When it comes to loans, you might immediately think of the headaches and the stress. The bank queues. Document upon document. Massive interest rates. Not only is it a process to apply for a loan, but it’s also never a guarantee that your application will be accepted.

Decentralized finance (DeFi) loans offer the lending process without the need for a bank or intermediary institution required. Instead, the lending is at a peer-to-peer level. DeFi sees lenders and borrowers find a platform, strike a deal, set up a smart contract and Bob’s your uncle. 

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Similar to traditional lending, a lender will earn interest on the loan and the borrower will need to pay the interest on top of borrowed money back within a set amount of time. The difference is that smart contracts, the self-executive clever little pieces of blockchain tech that they are, means that no middlemen are required. Because of the programmable contract, there are no additional lawyer fees, no surprising fees attached to the loan, and no cumbersome paperwork that takes months to process.

DeFi lending also offers benefits to both the lenders and borrowers. Peer-to-peer loans means that long-term investors can earn interest from the loan and it enables users to access loans at lower rates better than if they went through exchanges or (especially) through traditional loans.

Sounds great, but how does a DeFi loan work?

If you take out a loan from the bank, you need some sort of collateral associated with the loan. For example, if you are taking out a loan to buy a car, the car itself is the collateral. If you stop making the payments or can’t pay back the loan, your car is seized by the bank. 

DeFi borrowing works in the same kind of way. But there are a couple of key differences. Firstly, DeFi loans rely on smart contracts and all their brilliant benefits (which you can read all about) meaning there’s self-executing security in the contract.

Then, instead of having a physical property like a car or a house as collateral, it’s generally cryptocurrency that’s pledged. The borrower needs to offer something more valuable, or at least equal to, the loan amount. 

Often people borrow stablecoins such as DAI or Tether (as stablecoins, they’re effective mediums of exchange) and use their more valuable assets (stores of value, such as bitcoin, ethereum or others) as collateral so that they don’t have to sell and run the risk of buying back at a higher price. It’s a safer solution for someone who wants to keep their cryptocurrencies and get additional liquidity.

DeFi borrowing: You don’t need to sell your crypto

An important implication here is that the borrower doesn’t need to sell their cryptocurrency to get liquidity. Think of it like this: If you have a car but want to buy a new one, but you don’t want to sell the old one, you can take out a loan to purchase your new car using the old car as collateral. In the same way, with DeFi lending, you keep your cryptocurrency and can get a loan with better benefits than traditional lending.

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In Defi, anyone can borrow and anyone can become a lender. A lender with digital assets can lend to anyone and then make interest from it. The process happens through something called lending pools, where users can pool their assets which are then distributed to borrowers through smart contracts.

The way interest is accrued and distributed across lending pools can vary, so it’s worthwhile making sure you know what sort of interest type you prefer if you are a lender. If you’re looking to borrow, there are also different ways to borrow with different lending pools having different approaches to the process. 

So, whether you’re contemplating borrowing or looking to lend, make sure you do your own research to find out what would work best for you. Also, take care to read up on over-collateralization and the risks associated with major market movements. This article offers some helpful insight into this.

We’re excited about the future of finance – DeFi offers a compelling chance to restructure the system as we know it and the possibility of getting loans using your assets as collateral is just the cherry on top – and what a sweet cherry it is!

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