With the crazy volatility of the first half of 2021 behind us, many have accumulated some holdings of stablecoins and want to earn interest on them a relatively risk-free way. DeFi seems to be a pretty cool idea, but does it offer a good tradeoff between risk/gains — not just to crazy yield farmers, but to more risk-averse investors as well? I believe the answer is yes, based on a simple strategy of depositing stable assets and borrowing volatile assets.
Types of risks
Let’s overview some risks a DeFi investor faces:
- volatility risks
- smart contract risks
- ecosystem risks
- impermanent loss risks
I’m using the terms “volatility risks” rather than “loss of value” risks because I want capture risks in both directions —the risks from the price going up, and the risks from the price going down. (The former is bad for short sellers, for example.)
Smart contract risks and ecosystem risks is something that DeFi investors need to live with; the way to minimize these is to select Dapps and networks that are already well-established, and already have billions of value already locked into them. Do your own research!
Impermanent Loss is a specific type of volatility risk faced by liquidity providers that put liquidity in pools with two or more assets that might change value relative to each another.
