How to Invest in DeFi: 2023 Guide
An expert guide to investing in DeFi
This time last year, people said that CeFi was the safest and best way to invest in crypto. Defi is full of rugs, they said. Watch out for pump and dumps. You can’t trust anonymous developers.
Since the Terra Luna debacle, it's come to light that many of the venture capital firms and CeFi businesses that were using this narrative were anything from insolvent to outright fraudulent.
Researching DeFi projects is an essential step for anyone looking to invest in the cryptocurrency space. Not only does it ensure that you are making a well-informed decision about which project to invest in, but it also helps reduce risk and ensure that you don't accidentally invest in a malicious scam.
By taking the time to research any project you plan on investing in, you can benefit from greater security and peace of mind. Doing thorough research will also increase your understanding of various DeFi platforms, allowing you to decide where and when to allocate resources more effectively.
As with any type of investment, proper research should always be done before investing in DeFi projects, and be aware of both the risks and rewards.
How to Research a Defi Project
Researching a DeFi project requires a keen eye and an in-depth understanding of the technology. While it is easy to get caught up in the hype, it's essential to take some time to review the basics - from code principles and product specifications all the way to the amount of liquidity and scalability opportunities.
Users should also consider how long the project has been around, who’s behind it, and how active the community is because these indicators could affect sustainability.
We highly recommend you Read. The. Docs.
This includes the whitepaper as well as any docs on the main website. If you don't have discord, download it. Crypto discord groups are a plethora of information. The project is bad if the community isn't helpful and knowledgeable about the problem the protocol is trying to solve and isn't in the official docs.
Influencers may do an excellent job of bringing awareness to these companies. Still, many of them are shilling businesses they invested in early to pump the price and use their viewers or followers as exit liquidity. So don't take their word for anything.
After doing your due diligence into one or more DeFi opportunities, it's time to put your money where your mouth (research) is.
On-Ramp Your Funds
Opponents of DeFi will often talk about how difficult it is to on and off-ramp money. This couldn't be further from the truth. You can get funds from your bank account into decentralized finance in less than an hour. To put this into perspective, it takes PayPal 1-3 business days to transfer money to your bank account.
Here's what you'll need:
A hot wallet (MetaMask)
A cold wallet (Ledger)
A bank account
Cefi account (optional)
Step One: Set Up Your Hot Wallet
You must use a hot wallet no matter how you choose to on and off-ramp your money. MetaMask is the most popular, with over a million downloads and easy cold wallet integration.
Setting up Metamask is incredibly simple and involves only a few steps. First, visit the Metamask website, click Get Chrome Extension, or go directly to the extension store for Chrome and search.
Then, download and install the plug-in on Chrome. Once installed, create a password and verify your email address before being prompted to enter some details to back up your wallet securely in case of data loss. Next, select the network you'd like to work with.
ETH (Ethereum) should be selected by default, but more networks can be set depending on the cryptocurrency you want.
Finally, finish setting up your account by adding a secure phrase that needs to be remembered, as it'll be required for any transactions you make through Metamask in the future.
Note: Many people invest in DeFi because they care about their privacy and anonymity. Infura, the main RPC of the Ethereum network, recently announced they would start collecting data from MetaMask users on their network. It's highly recommended you change your settings.
Once you have your MetaMask set up with all the networks you want to play with, it's time to move some money to DeFi.
Step 2: Move Your Money
There are multiple ways to do this, and they all have their pros and cons. You have options to get your money into DeFi, but at some point, you'll likely have to perform KYC somewhere, whether it be now or later. So expect to have to go through this hassle at least once.
Use a Hardware Wallet
Taking the plunge into the world of cryptocurrency can be both exciting and intimidating. One of the most user-friendly ways to get started with digital currency is to use a Ledger wallet to make purchases.
Setting up a Ledger wallet is relatively simple: after downloading an app that supports purchased crypto coins, you have to add your coins, and you're ready to buy crypto!
All transactions made on a Ledger wallet are secure, meaning your personal finances remain safe throughout your investing journey. Buying crypto with a Ledger wallet opens up a wide array of options for anyone looking to take advantage of the potential growth in value that digital currencies offer.
Once you purchase with your ledger, you can bridge it to any blockchain you want. We highly recommend using a bridge aggregating service like bungee, as bridging assets come with transaction fees, just like making transactions on a single chain.
Here's an example of how the whole process can work: Use a ledger to buy BNB on Binance Smart Chain. BSC has really low transaction fees. While ledger's partnered app will take a cut, you can save money by buying your initial assets on a low-fee chain.
Once you purchase BNB, go to Bungee and bridge those funds to your desired blockchain.
It's that easy, and the whole process shouldn't take more than half an hour.
Transfer from a Cefi Exchange
You must log in to the exchange with your credentials to move funds from a centralized exchange to DeFi. From there, you'll need to withdraw your crypto holdings directly into your DeFi wallet or bridge them through an intermediary wallet service.
The address you enter must be correct; mistakes can mean losing access to one's holdings. It's a good practice to send a "test" transaction first to make sure you put the wallet address in correctly.
After initiating the withdrawal, confirm it on-chain and wait for transaction confirmation before taking the necessary steps within the DeFi platform of choice. Your funds should appear in your MetaMask wallet in just a few minutes, maybe even less.
Here's an example of how it works. You on-ramp money to either binance.us or binance.com, whichever is relevant to you. If this is your first time, there may be a holding period before you can move funds. It depends on the exchange.
However, once the funds are there, you're good to go. Click the withdraw button. Paste in the MetaMask address. Make sure you have BSC selected. And go through the directions as they come up.
Buy Directly Through MetaMask
MetaMask has a few partners that allow you to buy directly through them. While this option has the most anonymity, it also has the highest fees.
All you need to do is log in to your wallet and select which crypto you want to buy. Depending on your location and available partners, you may be limited to just buying ETH.
Once bought, users can move their funds around in DeFi as they see fit.
Best Defi Investments for New Users
Most people start their DeFi journey with decentralized exchanges.
A decentralized exchange (DEX) is an innovative technology that allows users to trade cryptocurrencies or other tokens without entraining their funds to a third-party custodian.
DEXs take advantage of smart contracts and other modern techniques, such as automated market makers, so that members of the DeFi community can make direct trades with one another in real time.
Leveraging blockchain and distributed ledger technology, users have greater access to liquidity and transparency reviews while also enjoying greater security than they would when relying on a centralized asset exchange.
Decentralized exchanges ultimately offer immense potential for DeFi participants who are looking beyond traditional markets and intermediaries for higher levels of autonomy.
Dex communities are a great way to learn the ropes, make some new friends, and learn about new projects. They're also easy to understand, with most of the opportunities revolving around various token pairs and providing liquidity for the pools surrounding these particular pairs.
How Liquidity Pairs Works in Defi
When it comes to DeFi liquidity pools, users need to understand how they work and the concept of liquidity pairs.
In simple terms, a liquidity pair is an asset pair that consists of two different tokens (e.g., ETH/WBTC). When users deposit cryptocurrency into these pools, their assets are put into both sides of the pair, usually at a 50/50 ratio, unless you're using Balancer or a project using that technology, but that's a post for another day.
By doing so, they effectively provide liquidity to the pool and are rewarded with an incentive in the form of a portion of the fees that traders pay when they exchange between these two tokens. Users may also earn rewards from the Dex's farming token, which is paid in an APR.
In this way, liquidity providers act as market makers and can earn rewards while keeping their assets locked up for some time.
Of course, the liquidity pool may be riskier than other options, but it can also provide significant benefits. While there are risks, DeFi has those in abundance, and you need to familiarize yourself with the risk involved, such as impermanent loss and a few other issues that come with liquidity. Despite all of this, it's still the best place to get your feet wet as a new investor.
Some Final Thoughts
Research and ramping funds are just the tips of the DeFi iceberg. The rabbit hole can go as far as you're willing to go.
We recommend buying a cold wallet before you start playing around in this space. MetaMask, while a fantastic product, is hackable, and every day there are stories about people being robbed. A cold wallet is the best way to protect yourself from that threat.
However, even with a Ledger, you're still subject to smart contract risk, hence the emphasis on research before investment. Trust your gut, beware of influencers, and never stop learning about crypto.