What Is Profit Cultivation In The World Of Digital Currencies And Why Do Users Go For It?

What Is Profit Cultivation In The World Of Digital Currencies And Why Do Users Go For It?

The World Of Digital Currencies Is Fascinating, Tempting, And Turbulent. People Who Intend To Enter This Field Must Have Sufficient Knowledge About Digital Currencies, How To Trade, And Technical Aspects Of This Field. 

Usually, people with experience working in the stock market know how to trade digital currencies. However, entering this field without research will cause people to experience huge losses.

Users can think of earning money from this field in different ways. One of these fields is yield farming, which has been the focus of investors for some time.

This article will tell you what profit cultivation is, what risks there are when using this method, and how to calculate profit.

Decentralized financial institution

Decentralized financial institution (DeFi) is at the forefront of blockchain innovation. What factor has made DiFi applications unique? DeFi is permissionless, meaning that anyone (or anything, like an intelligent contract) with an internet connection and a wallet can make financial transactions. DeFi doesn’t require custodians or intermediaries, making it difficult to trust the technology. However, companies are still gaining interest because of their exciting capabilities. One of these capabilities is related to the concept of profit cultivation.

One of the new concepts that have been receiving attention in the field of cryptocurrencies for some time is crop cultivation or, more precisely, “profit cultivation.” Using permissionless liquidity protocols, a method based on earning rewards through digital currency assets. The above mechanism allows users to earn passive income using the decentralized Money Legos ecosystem built on Ethereum.

As a result, profit cultivation may change the cryptocurrency market. Cultivating profit means that if you have an asset, don’t leave it unused and think about making a profit.

What is profit cultivation?

Digital gives to receive profit. It is classified under the DeFi field of tools because it allows users to plant (invest) coins. One of the main methods of earning money from the cryptocurrency market is yield farming, which passively makes money from digital currencies. Profit farming, also called “Liquidity Mining,” is a method of receiving rewards through digital currency investments.

Simply put, digital currencies are provided to a platform similar to long-term deposits. In return for interest, digital currencies are deposited into the account holders of digital currencies.

Indeed, cultivating profits for digital currency market enthusiasts allows them to get a good profit, but being in this market has risks that, if you are not aware of them, you may lose your capital. In the profit cultivation method, users of tokens (tokens)  of the digital currency put themselves in financial infrastructure and receive a profit in return.

The benefit of the above method is paid based on the activities defined in the infrastructure.

For example, an infrastructure lends its funds to people. In this case, it distributes the profit it receives from borrowers to shareholders or investors.

In developing the protocol, the profitability of the infrastructure and how users can access the profit cultivation infrastructure may change according to the opinion of the development team. Because the changes directly affect the profit users receive, the decentralized protocol development process should.

As you know, creating digital currencies is based on decentralized activities; that’s why a decentralized digital currency investment infrastructure must exist. Therefore, the platforms mentioned above are based on the model of smart contracts based on the blockchain, and the manner and terms of using these infrastructures are the same as smart contracts.

In this case, the funds received from digital currency holders are stored in smart contracts so no user can distort or manipulate them. The Decentralized Autonomous Organization (DAO) has been developed for this reason. The Maker DAO protocol should be among the successful examples in this field.

The mechanism of the above protocol is that the owners of cryptocurrency token MKR can make suggestions or vote on recommendations made by other users.

Profit cultivation can be described as something similar to stock ownership, but it is much more complicated than the traditional methods of buying shares. People who invest in digital currencies on platforms are called “Liquidity Providers.” People who add funds to Liquidity Pools.

What is a liquidity pool?

An intelligent contract includes people’s capital. The above method rewards liquidity providers for investing their digital currencies in the pool. This bonus may pay from fees generated by the original DeFi platform or another source.

As you can see, the way the above mechanism works are pretty complicated. Some cash pools pay their rewards in the form of various tokens. Reward Tokens may be linked to other liquidity pools so that individuals receive double tips for investment.

However, the basic idea is that the digital currency owner provides their assets to a liquidity pool and receives rewards in return. The profit cultivation method typically uses Ethereum ERC-20 tokens, and the tips are some ERC-20 tokens.

However, the situation may change in the future, as some companies are considering ending the monopoly of the Ethereum ecosystem and introducing other infrastructure and smart contracts to the cryptocurrency world.

However, mechanisms such as Cross-Chain Bridges and more advanced technologies may introduce changes to DeFi. More precisely, the technologies can run on other blockchains supporting intelligent contracts.

In this case, digital currency owners can move their assets between different protocols to gain more profit. As a result, DeFi platforms may provide users with more economic incentives to attract more capital (liquidity tends to attract more liquidity), which is precisely the same model centralized exchanges operate.

What factor has caused the growth of profit cultivation?

The sudden intense interest in profit farming can be attributed to the design and development of the COMP governance token. Sovereignty tokens grant sovereign rights to token holders, but if you intend to decentralize the network as much as possible, on what basis should we distribute these tokens? A common way to develop a decentralized blockchain is to distribute governance tokens with liquidity incentives algorithmically.

The above approach allows cryptocurrency owners to seed the new token by submitting their assets to the protocol. While the COMP token was not the origin of profit farming, its development has made this method of earning money from digital currencies popular.

What is Total Value Locked (TVL)?

Based on what method can the owners of digital currencies evaluate the state of the Defai platform on which they intend to invest their assets? The answer is a concept called the “Total Value Locked” measure used to evaluate DeFi projects and cryptocurrency mining projects.

The higher the value of the locked property in a project, the more users have used the mentioned infrastructure, and the infrastructure can use more reliably.

It is necessary to explain that the TVL value of a project is calculated based on the dollar currency. It sometimes confuses users because the value of the digital currency tokens is always variable compared to the dollar.

More specifically, it is possible that while network-locked tokens are trending upward, the total dollar value of closed tickets may be trending downward. Typically, cryptocurrency experts use the graph mechanism of the total value locked in a project and the project’s token market value ratio to TVL to find tokens growing in the DeFi space.

For example, suppose the currency locked in a digital currency is trending upward, and the value of the number of tokens locked in the project is greater than the value of the ticket itself. In that case, the project token may trend upward.

How does profit cultivation work?

Profit cultivation is closely related to the Automated Market Maker (AMM) model. A liquidity supply pool is one of the ideal methods of building decentralized exchanges. In centralized cryptocurrency exchanges, the order book is used for trading. Then in the above method, users’ purchase requests are recorded in one part of the office, and sales requests are registered in another region.

In the method based on the order book, whenever the cryptocurrency sale request is not in the set price range, the transaction will not do. And in centralized exchanges, a solution to this problem has been devised that “Market Maker” plays the name and role of the intermediary. This interface simplifies the transaction process for users by providing the necessary financial resources.

In decentralized exchanges, the order book mechanism is also used for digital currency trading. In this case, liquidity providers deposit funds into a liquidity pool. The market operator is unavailable to maintain the network’s decentralization; instead, an “automatic market operator” is used.

This pool creates a marketplace where users can lend, borrow or trade tokens.

Using these platforms requires spending fees withdrawn from the liquidity providers’ assets. An automated market maker is a mathematical algorithm that automatically determines the price of cryptocurrency tokens in a liquidity pool.

Some infrastructures use two cryptocurrencies in liquidity pools to better support users, while others support different cryptocurrencies. Any number of cryptocurrencies, the more the collections help, the more the computational complexity increases.

The deposited funds are mostly stablecoins pegged to the US dollar in the above mechanism. That is why there are different implementations in this field. The mentioned technology is new, and in the future, we will see the improvement of the working model of this mathematical algorithm.

Some of the most common stablecoins used in DeFi are DAI, USDT, USDC, BUSD, etc. Some protocols mint tokens that represent coins deposited into the system. For example, if you convert DAI to Compound, you will get cDAI or Compound DAI. If you deposit ETH to Compound, you will receive ETH.

What is the process of calculating profit cultivation?

Usually, the yield of interest cultivation is calculated on an annual basis. One year’s interest is estimated and paid. As a result, it may not be the same as the result that the owner expects.

Two measures of annual percentage rate (Annual Percentage Rate) and yearly percentage profit (Annual Percentage Yield) are used to express the gain of the profit cultivation process.

The main difference between the above two measures is that APR does not consider compound interest in the calculation. In contrast, APY assumes compound interest or, more precisely, the compounding effect. Compounding, in this case, means direct reinvestment of profits to get more profit.

Sometimes, these two terms are used interchangeably, so you must be careful when using a platform. Also, it is essential to point out that the above criteria are only estimates and predictions. Even short-term rewards are difficult to estimate, as market fluctuations affect profit cultivation.

Since APR and APY come from traditional trading markets, DiFi may use a different technique to calculate interest rates in the future. Given the high volatility in this area, weekly or even daily profit estimates may make more sense.

What are the risks of profit cultivation?

Cultivating profit is not an easy task. The most profitable profit cultivation strategies are obtained through complex calculations, and only professional users can do it. Also, profit cultivation is recommended for people with a lot of capital to deposit in pools.

Profit cultivation is one of the risky methods of making money from the digital currency market. Security problems in smart contracts, fraud in new projects, loss and even loss of capital due to the inability of the platform to provide liquidity, and extreme fluctuations in the price of digital currencies are only part of the risks that the wealth of digital currency owners face.

Threatens To be more precise, if you do not understand the mechanism of the platform you are going to invest in and choose a newly established platform, there is a high possibility that you will lose your capital. One of the apparent dangers of profit cultivation is smart contracts.

Due to the nature of DeFi, some protocols are built and developed by small teams with limited budgets.

The above approach can cause problems related to smart contracts. With more extensive protocols audited by reputable auditing firms, vulnerabilities and bugs are always possible.

Due to the immutable nature of the blockchain, the above approach can lead to the loss of user capital. For this reason, you should consider this when locking your assets into a smart contract. One of the most significant benefits of DeFi is also one of its biggest risks. It is the idea of ​​composability. As we mentioned, the DeFi protocols are permissionless and can be seamlessly integrated.

More precisely, the entire DeFi ecosystem depends on each building block. It is how we say that these programs are combinable and can work together.

Why is this risky? If just one of the building blocks doesn’t work, the entire ecosystem can suffer. It is the factor that threatens asset owners and liquidity pools. You must not only trust the protocol you are depositing your funds into but all protocols that may be associated with it.

last word

In this article, we tried to examine the mechanism of profit cultivation, the way of investment, and the risks surrounding this technology. As we have seen, profit cultivation means using digital currencies to earn profit. What will this decentralized financial revolution bring to the world of digital currencies?

Undoubtedly, DeFi financial markets can help build a more open and accessible financial system for every user connected to the Internet. However, you should not enter this field without researching and getting enough information about the pros and cons and the intended platform. If necessary, take advantage of the guidance of experienced people in this field.