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What Is Decentralized Finance (DeFi) And How Does It Work?

Why it matters to you:
Decentralized Finance is one of the innovative solutions which can help unbanked or underbanked people entities get more exposure to capital and solve their problems. This concept in the world of cryptocurrencies has great potential and can be a source of good profit from different points of view.
What Is Decentralized Finance (DeFi)?Prospects for investment in the DeFi sectorWhy Creating a DeFi coins index is a smart investment move

In a world where traditional financial systems can be complex and exclusive, DeFi offers a breath of fresh air. Let's unravel the basics of this fascinating world, its prospects, investment opportunities, and the reasons behind its meteoric rise.

What Is Decentralized Finance (DeFi)?

“Decentralized Finance” is a revolutionary concept that brings financial services to the fingertips of anyone with an internet connection. In simple terms, it's like traditional banking without the banks. But what does DeFi mean in crypto, why does it shine so brightly in the realm of finance?

The answer lies in its core principles: accessibility, transparency, and innovation. Unlike traditional finance, which often has barriers to entry, DeFi opens its doors to the unbanked and underbanked populations worldwide. With its help, individuals can access various financial services without relying on intermediaries such as banks, funds, and other financial institutions.

DeFi guide: The genesis and its varied entities

This phenomenon didn't emerge overnight; it resulted from years of blockchain innovation. It began with the introduction of the so-called “smart contracts”, self-executing code systems based on blockchain technologies. These contracts, first introduced within Ethereum system, are the foundation of DeFi.

With the sue development, several key entities have emerged within the ecosystem, showin what is DeFi in blockchain exactly – and which are worth paying attention:

DEX Exchanges (Decentralized Exchanges)

DEXs eliminate the need for middlemen in buying and selling cryptocurrencies by facilitating financial transactions peer-to-peer, directly between users. They give users ownership over their assets and make it possible to conduct transactions transparently and securely.

DAO (Decentralized Autonomous Organizations)

DAOs are organizations governed by code rather than people. They enable decentralized decision-making and fund management, making them transparent, democratic and resistant to corruption. With principles of DAOs people can even vote in different elections without any falsifications.

Lending and Borrowing Platforms

DeFi provides lending and borrowing services where users can lend or borrow cryptocurrencies and earn interest. These platforms eliminate traditional banks' need, offering competitive interest rates.

Yield Farming

Yield farming involves users providing liquidity (funds) to decentralized exchanges or lending platforms in exchange for rewards. It's a way to put your cryptocurrency holdings to work and earn passive income.

DeFi explained: a contrast to traditional finance

DeFi operates on blockchain networks, where transactions are recorded transparently and securely. Unlike traditional finance, which often involves banks and intermediaries, DeFi uses the aforementioned “smart contracts” to automate financial processes.

Total Value Locked (TVL) – is the volume of assets that are staked in DeFi in general, or a specific project. It means the total volume of assets which are engaged in financial ecosystem

One of the significant advantages of DeFi is its accessibility. It's open 24/7, allowing users to engage with financial services anytime without being bound by traditional banking hours, and of course, it doesn’t have other boundaries – geographic, bureaucratic, etc.  

Prospects for investment in the DeFi sector

The potential that decentralized finances possess has attracted the attention of investors. The industry has seen unprecedented expansion, which has made several investment options available. However, should one risk enter this realm of decentralized financial systems?

Without a doubt. The industry of decentralized finance is loaded with potential return opportunities. Because of its open and global character, it enables investors to spread the risk of their investments over various decentralized finance initiatives, therefore increasing the likelihood that they will make big profits. 

$179 Bln

The maximum TVL reached in November 2021, according to Defillama

Investing in DeFi can be highly profitable, but it's not without risks. Given its relatively new and rapidly evolving nature, thorough research is essential. Investors can add the cryptocurrencies of DeFi projects to their strategy, but they should diversify investments to manage risk effectively. 

Decentralized finance brings many strengths to the financial world:

  • Accessibility: It welcomes a global audience, including the unbanked.

  • Transparency: Blockchain ensures transparency and security.

  • Innovation: DeFi continually introduces new financial instruments and products.

However, it's not without weaknesses:

  • Regulatory Uncertainty: The evolving regulatory landscape can be challenging to navigate.

  • Smart Contract Vulnerabilities: Bugs in smart contracts can lead to vulnerabilities.

  • Market Volatility: The crypto market's inherent volatility can impact projects.

Macroeconomic factors influencing industry growth

Several macroeconomic factors contribute to DeFi's growth and development:

1. Banking Crisis: Individuals seek financial security during economic crises, making DeFi an attractive option.

2. Unbanked Users: A vast population needs access to traditional banking services. DeFi can bridge this gap by offering financial and loan services.

3. Regulatory Changes: Favorable regulations can boost DeFi's growth, while unfavorable ones can hinder its progress.

What could be in store for the future?

What is the meaning of DeFi for finance and economy in general? It is poised to play a significant role in the future of finance and eventually will find a decent application. Here are key insights from various sources:

  • Greater Transparency and Security: DeFi offers the potential to provide greater transparency and security in financial services by leveraging blockchain technology. Transactions on blockchain are immutable and can be audited by anyone, enhancing trust in financial operations.

  • Alternative Trust Model: Brookings Institution mentions that DeFi introduces an alternative trust model by substituting traditional financial intermediaries with blockchain technology and cryptocurrencies. This can reduce reliance on centralized institutions and their associated risks.

  • Challenges and Regulatory Concerns: Forbes highlights that while DeFi has thrived without regulations, it also faces challenges, such as consumer protection. Regulatory frameworks are evolving to address these concerns.

  • Decentralization's Growth: Nasdaq asserts that DeFi is the future of finance. It reflects the growing interest and adoption of decentralized financial systems.

  • Democratizing Finance: DeFi has the potential to democratize finance by eliminating traditional intermediaries. This can promote financial inclusion and economic growth, especially for underserved populations.

According to PwC, DeFi has seen phenomenal growth from the middle of the year 2020, which points to the potential relevance of the technology. The feasibility of decentralizing financial services has been proved by DeFi, despite the fact that the project is still in its early phases.

1,4 Billion people are still unbanked

According to The Global Findex Database 2021 Report

Because it offers transparency, security, and an alternative trust paradigm, distributed finance has the potential to completely upend the financial industry. On the other hand, it also confronts issues related to regulation and consumer protection, which need to be addressed as it develops.

In conclusion, DeFi are more than simply a financial fad; they are a force that is transforming how we access and engage with financial services. There is no denying the enormous promise it has for both innovation and financial inclusivity. It is essential to approach the decentralized finance industry with care due to the fact that it is constantly developing; despite the fact that it offers interesting investment prospects.

If done correctly, distributed finance has the potential to revolutionize the financial landscape for investors as well as the unbanked, paving the way for a more prosperous future for all parties involved.

Why Creating a DeFi coins index is a smart investment move

Diversification is a crucial principle in investment strategy. Creating a DeFi coins index allows investors to spread risk across multiple assets. This index offers exposure to the overall performance of the DeFi market, reducing the risk associated with investing in individual projects.

The prospects of this segment of cryptocurrencies are great, and its value has a potential for growth, which makes it an opportunity for investment. J'JO offers a ready-made solution to make it easier for investors to enter this sector of the crypto market. 

The J'JO DeFi index includes the top 20 projects by market capitalization in the segment of decenralised finance. It has a minimum investment amount of less than $200 and is a good opportunity to start exploring the world of DeFi-related cryptocurrencies.

You can learn more about this index in your J’JO personal account on the official website.

Published: Oct 12, 2023
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