Crypto Gets Reminder of DeFi Risks From Latest Loan Default
The sheer size of the cryptocurrency market makes it impossible to ignore, especially for the traditional banking system as this emerging financial asset class could threaten financial stability. Second, compliance departments should stay up-to-date on all recent guidance related to DeFi and digital asset regulation more broadly, which could provide insight into operational risks and solutions. DeFi project developers may consider setting up proactive meetings with regulatory stakeholders to gain insight into the current landscape and regulation slated to come down the pike. The blockchain research firm Chainalysis also published a report on criminal activities targeting the crypto industry.
- Analysis of risk in DeFi protocols can be quite different when compared to traditional finance.
- Oracle issues infamously caused more than $120 million in losses for lenders such as CREAM Finance and a nearly as large loss on Aave, which was ultimately mitigated by Gauntlet’s governance proposal.
- The main challenge with oracles is ensuring that they are sufficiently decentralized to prevent malicious actors from uploading false information.
In addition, there are web-based tools that help users identify, or invest in, the highest-yielding DeFi instruments and venues. Other applications let users earn fees in exchange for supplying liquidity or market making. There are also tokens coded to track the prices of securities trading on registered U.S. national securities exchanges, and then can be traded and used in a variety of other DeFi applications. So while the underlying technology is sometimes unfamiliar, these digital products and activities have close analogs within the SEC’s jurisdiction.
DeFi Risks
But if we build on top of a secure protocol, whether it’s through Lightning or companies that build on the Bitcoin blockchain , then we can start to add more “DeFi” features and build a decentralized financial system on top of Bitcoin. We can still offer interest on savings, options for collateralizing your holdings, and ways to earn rewards for participating in the network. But all of these features are built on a rock-solid foundation that entities can’t manipulate in the same way DeFi protocols can. Liquidity risk—Many DeFi protocols require users to add liquidity to earn rewards, but this comes with the risk of being stuck in an illiquid position.
The crypto-asset market is notably volatile, and exposure to the underlying currency risk and derivative assets, such as protocols built on top of blockchains, comes with significant risk. Similarly, the interconnectivity of DeFi services means measuring the idiosyncratic risk of a singular platform is difficult. For the collateralized borrower, counterparty risk tends to be primarily related to the platform properly functioning. However, even in the case of improper liquidation of certain collateral, the usual first bearer of risk tends to be the protocol itself via its governance token holders. Adverse selection in the decentralized financial world looks similar, but not identical. On the borrower side, interest rates are public, open source and verifiable – as lending code exists immutably on the blockchain, there is no question the rates methodology presented maps to the final output exactly.
Building a New Financial City
The report revealed that 97% of the total stolen https://micky.com.au/top-5-biggest-defi-risks-that-scare-crypto-community/ assets till May 2022, which was $1.7 billion, belonged to the DeFi ecosystem. Notably, the Thai commission started cautioning investors after the two DeFi platforms halted withdrawals recently. Zipmex, a digital assets brokerage, announced on 21 July to cease withdrawal from the company’s subsidiaries in Thailand and Singapore. The DeFi industryrose to prominence in mid-2020 as the promise of higher yields and easier access to credit markets attracted crypto-native investors. According to most metrics, DeFi activity peaked in the third quarter of 2021 — in November of that year, the total value locked on DeFi platforms eclipsed $180 billion. For investors considering broadening their portfolio into DeFi, it’s important to understand the key factors of the DeFi landscape.
