DeFi Summer 2.0 — Boom or Bust?

There are many new developments happening in the world of DeFI, and a lot of uncertainty. The uncertainty comes from the recent sell off in cryptocurrencies, large transaction fees on the network, and an increasing number of hacks.

There is evidence that despite these setbacks the overall adoption of DeFi is growing. More users are entering the space, a greater fraction of existing crypto is being invested, and new innovations are coming out every day. Let’s start by taking a moment to understand some of DeFi’s recent failures.

The Iron Bank Fiasco

Not even Mark Cuban was spared when the price of the TITAN token crashed to 0. This led him to call for government intervention in the DeFi sector, stating that stablecoins (dollar-pegged cryptocurrencies) should be regulated. They say any publicity is good publicity, but we should question that here. This unfortunate hurt public opinion of DeFi and has left many asking, what exactly happened?

Iron finance started with the idea of bringing something like fractional reserves to decentralized finance. Concretely, they created a dollar pegged cryptocurrency that was 75% backed by another stablecoin, USDC, and 25% backed by their own token TITAN.

The “tokenomics” set in place made it so that as IRON stablecoins are minted, the demand for TITAN increases, driving up its price. This process also works in reverse, so that as IRON stable coins are redeemed, the demand for TITAN decreases. It wasn’t immediately obvious to market participants that such a system was inherently unstable. However, as the price began to fall last week a feedback process took hold and the price of TITAN entered a death spiral. In a short span of time the price fell from $65 to near $0, signaling a complete collapse of the project.

Even though this project failed we should take a moment to appreciate the ingenuity and financial innovation.

Transaction Fees?

Another problem facing the world of DeFi is the large transaction costs on the Ethereum network. Simple DeFi operations like performing a trade were costing as much as several hundred dollars at the height of this current bull market. The transaction fees have reduced significantly in the current market downturn, but it has still been made clear that there are fundamental issues on the network.

“Layer 2” refers to a secondary framework or protocol that is built on top of an existing blockchain system. The main goal of these protocols is to solve the transaction speed and scaling difficulties that are being faced by the major cryptocurrency networks. The polygon network is the first layer 2 to be released on the ethereum network and is quickly growing. Many users have migrated off of the main ethereum network and onto polygon. With Aave on polygon users can lend and borrow, executing transactions for a fraction of a cent. Users can also trade with quickswap for similar transaction fees.

Still, there are some challenges with using polygon. Getting access is a bit difficult as users are required to bridge their funds into the network. This is just one more added difficulty on the non-trivial process necessary to interact with DeFi. Also, many of the main DeFi platforms have still not yet made their way over to the polygon network.

Platforms are getting Rekt

The website rekt.news keeps a running list of hacks in the DeFi space. The leaderboard shows that hundreds of millions of dollars have been hacked in the trailing several months. A large number of these hacks appear to be taking place on the Binance smart chain network. This is a POA network managed by binance where unaudited projects are accumulating very large user bases.

Beyond platform hacks there are also more subtle scams being executed that are called “rug pulls”. A rug pull is where crypto developers abandon a project and run away with investors’ funds. For instance, the Polywhale team was recently accused of abruptly shutting down and making off with over $1M of user funds.

Thriving or Dying?

We’ve seen sufficient evidence that DeFi is a world that is still fraught with peril. The space is expanding at a rapid pace and careless investors run a very high chance of being burned. We shouldn’t be too surprised — at the fringes the world of cryptocurrency has always been high risk / high reward.

The major successes in the DeFi space are striking. Both Compound and Aave have peaked at over $10B in assets locked on their platforms, Uniswap has seen a max of over $3B in daily trading volume, and MetaMask has over 5M users. Also, users are staying active despite the incredibly high transaction fees.

There is still a lot of time left in the summer, but it does seem like DeFi is continuing to grow and expand. It is certainly not without hiccups, but that is expected in any technological growth sector.

How to get started?

If you are a technology enthusiast with a lot of spare time you can start by downloading a MetaMask wallet. Once you transfer funds into your wallet you can directly face the myriad of applications in the DeFi space. We recommend prudence and caution in choosing what platforms to interact with — try sticking with those that have been around for a good period of time without being hacked.

Alternatively, at ChainVault we are working on building a regulated custodial solution that automates investment into DeFi. We identify the most attractive & secure sources of yield and use them to provide our users with a passive source of income. Join the waitlist and we will let you know when our product is ready!

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