Decentralized exchanges are among the essential tools for the emerging decentralized finance industry. They provide a way to exchange assets without giving up control of your funds.
In this article, we will introduce you to all DeFi products, including decentralized exchanges (DEX), decentralized applications (dApps), decentralized NFT marketplaces, the AMM (automated market maker) model, and everything around them. These products offer revolutionary features and benefits in this modern era of finance and cryptocurrencies.
The World of Crypto DEX, dApps, DeFi, AMM, LP Tokens, DAO, IFO, Yield Farming, and NFTs
In the modern era of blockchain, there are a variety of decentralized exchanges (DEX) and decentralized applications (dApps). dApps are the products (web or mobile applications) essential for DeFi to function. Let's explore all crucial terms of the DeFi cryptoverse.
DeFi (Decentralized Finance)
Decentralized financial infrastructure is built on a system where people can purchase and sell without the need of banks or any central authority. All transactions are executed peer-to-peer and rely on blockchain technology which runs on decentralized networks.
dApps or DEX
Dapps enable functional applications on decentralized networks. That means that dApps are not owned by any company or person but instead rely on distributed ledger technology to perform their tasks.
Front-end interfaces might look similar to other applications like banking, media, or communication websites. Most of the aspects that set them apart are happening in the background.
Every dApp is powered by a smart contract situated on the blockchain to function. This way, it can't be taken down. Once the smart contract is deployed, anyone can interact with it even if part of one node is down.
Here are examples of some of the widely used DEX exchanges.
PancakeSwap – The most popular AMM and yield farming application built on the Binance Smart Chain.
Uniswap (V2) – High-liquidity DEX that supports hundreds of Ethereum applications.
A swap is a smart contract technology that enables the exchange of one cryptocurrency for another without using centralized intermediaries, such as exchanges.
AMM (Automated Market Maker)
Automated market makers, or "AMMs," are a type of decentralized exchange protocol that relies on a mathematical formula to price assets. Instead of using an order book as traditional exchanges do, assets are priced according to a pricing algorithm.
You can get a high return on lending or stake with cryptocurrency. There are risks and rewards associated with this investment practice, which will vary in magnitude depending on the volatility of the cryptocurrency you lend.
The popularity of this decentralized finance (DeFi) application has skyrocketed recently, thanks to further innovations like liquidity mining.
DeFi-based yield farming is currently the biggest growth driver in this sector, contributing to a market cap jump from $10 billion to $500 million.
In short, yield farming protocols incentivize liquidity providers (LP) to stake or lock up their crypto assets in a smart contract-based liquidity pool. These incentives can be interest from lenders, a percentage of transaction fees, or governance rights.
People may earn returns on these investments as a proportion of the funds they invest. As more people invest, the value of these investments decreases accordingly.
Tokens given to liquidity providers in rewards in decentralized exchanges are called Liquidity Provider Tokens. LP tokens are issued on DEXs via an Automated Market Maker protocol. When contributing to the liquidity pool, you will be issued LP tokens. This represents a proportional share in the overall pool.
Liquidity pools provide liquidity to token exchanges by locking up a specified amount of tokens in smart contracts. They are designed to solve the problems of illiquidity.
Liquidity pools also refer to the point where orders intersect, which sets a price level that will determine whether the asset will continue to go up or down.
Decentralized exchanges allow for the instant, trustless exchange of assets between parties without any intermediary. The exchange that is offering both the assets of the trading pair and becomes responsible for funding it on-chain using an automated market maker.
Liquidity pools can be a good option if you already have an asset but want to get rid of it quickly. They don't require the buyer and seller to agree on the price first. Liquidity can be a problem with smaller trading pairs, but this doesn't have to be an issue as long as the right pool of buyers and sellers is available.
The funds in liquidity pools are provided by other people like you - they also make passive income on your deposit through trading fees based on the percentage of the pool that they provide.
Impermanent loss defines the transient loss of funds sometimes experienced by liquidity providers due to high volatility in trading pairs. Moreover, it shows how much more money someone would have owned if they held onto their investments instead of supplying liquidity.
DAO (Decentralized Autonomous Organization)
DAOs are decentralized organizations coordinating like-minded people around the world. They have a creator that creates the contract, but no one can access the treasury without the majority owner's consent.
In DAO, you get to decide on new features. You also get a say in how things work by voting and suggesting new ideas to the whole community.
No CEO can authorize spending for their company at will, and no CFO can exploit a DAO system.
The reason? Rules about spending are baked into the code, and all transactions are recorded. Thus, you know how many votes are needed to reach a consensus.
IFO (Initial Farm Offering)
Initial Farm Offerings (IFOs) take place at decentralized exchanges and allow new DeFi projects to run pre-sales events in order to raise capital. They go through strict vetting processes before being able to participate in one.
Initial coin offerings (ICOs) were very successful in the early stages of cryptocurrencies. Nowadays, IFOs offer a new model that follows the same pattern but with some significant improvements.
Non-fungible tokens (NFTs) became mainstream only in 2021, generating over $23 billion in trading volume. You can trade NFTs on a non-fungible token marketplace or use one that's embedded into your game, for example.
Digital collectibles are physical items that come to life in a digital environment. Investors and buyers can trade and own these digital arts.
Moreover, you can even auction NFTs on the marketplace. All you need is a crypto wallet to make a transaction. These are similar to buying and selling items on platforms like Amazon and eBay.
NFTs are associated with photos, videos, audio, or other digital collectibles. They work by executing a set of instructions known as smart contracts, which serve the same purpose in NFT marketplaces as they do on public blockchain platforms. These protocols make it possible to connect with actual buyers with no middleman needed.
It's the genesis concept behind the popular crypto sub-space referred to as decentralized finance (DeFi). Many companies claim to be decentralized NFT marketplace. However, that's not the case for the majority. Thus, the booming worldwide NFT business needs efficient decentralized marketplaces to thrive.
The Bottom Line
DeFi is a new type of financial system that operates without intermediaries. The decentralized exchanges and dApps allow users to exchange their assets without the need for a third party.
The benefits of DeFi are that it is cheaper, faster and more secure than traditional financial systems. It also has lower fees and no intermediaries. The drawbacks are that there are not many users, which makes it difficult to find liquidity, and there is no regulation which makes it difficult to recover lost funds if something goes wrong.