The contemporary landscape of the DeFi ecosystem is quite diverse. It seems like the ocean of opportunities does not end at the horizon. However, the reality is that the sector has been contracting since 2022. It does not mean that you cannot find excellent investment options in the world of decentralized finance but the quality of choices has degraded.
Over the last three years, the total value locked (TVL) across all tracked protocols has dropped by at least 46% from its ATH of $175 billion achieved in 2022. At the same time, the sector has definitely recovered from its slump at the end of 2024 when TVL was as low as $36 billion. The unpredictability of the industry coupled with the general economic uncertainty creates an investment environment filled with anxiety and doubt.
One of the biggest reasons why the DeFi sector managed to recover is the growing interest in decentralized, non-custodial exchanges. The competition in this particular section of the industry is incredibly intense with over 1,400 different DEXes offering their services across 90+ chains. The battle for liquidity is often won by projects that offer the best returns. Since achieving high APYs is quite difficult, these protocols have to resort to paying out rewards in native, governance, or layer 2 tokens.
The increased complexity of reward structures within the ecosystem has led to the appearance of yield boosters and multipliers that move assets around to identify the best farming opportunities and produce the highest ROI for each individual case. While aggregators do provide a valuable service, they are still less profitable compared to investing directly. In a sense, investors are paying management fees.
The number of tracked protocols, active or inactive, has risen to over 11,000. Thousands of Dapps are in the pipeline as you are reading this article. This diversity can be overwhelming to regular users who do not have any prior experience within the crypto industry. We want to give you a couple of tips to navigate the ecosystem without anxiety and stress.
The rise of DAOs during the last decade is not coincidental. There is a strong demand for decentralization fueled by inadequacies of national monetary policies, restrictive financial regulation, and even politics. Some of the best yield farming protocols in the sector are distributing governance tokens as their main rewards. In the vast majority of cases, these tokens have long-lasting value and utility.
Below are some projects that offer governance tokens:
Since DAOs are not pushing for regulatory compliance in yield farming or other processes for obvious reasons, many contemporary investors believe that they are escaping the all-seeing eye of governmental authorities by transitioning their assets into DeFi investments.
When it comes to acquiring staking rewards in native tokens, you have to pay extra attention to tokenomics and how the emission of currency affects prices. Another important factor is the share of issued tokens that are used to cover reward payouts. Understanding the math behind each project and its emission is very useful when trying to find the best moment to exit a position. The information about token distribution is always publicly available and can be easily verified.
For example, cryptocurrency staking returns for Polygon are roughly 3.84% APY assuming a 10% validator fee and at least 365 days of investing. Rewards in POL are paid by 12% of the total emission sent to a secure pool from which the rewards are paid out automatically. This setup ensures that there is always enough currency to compensate validators and delegators handsomely. However, it also can suffer from diminishing user activity and stagnating emissions.
On the other side of the coin, there is an issue of uncontrolled issuance of tokens that cause the flooding effect and deflate the price dramatically. CRV has suffered from high inflation losing over 98% of its value since launch.
Since the DeFi sector is becoming more and more interconnected as the vision of Web 3.0 turns into reality, many investors are realizing that they can invest in a variety of blockchain ecosystems without hopping from one protocol to another. The interoperability enabled by various improvements made in blockchain architectures as well as the proliferation of bridges that utilize strong security measures created a diverse ecosystem.
Composability in DeFi allows many protocols to operate across different networks while bridges help investors move assets across the ecosystem without many issues. Below are several protocols that support multiple chains:
All investors must remember the importance of focusing on risk mitigation when attempting to build a portfolio concentrated on DeFi investments. Some of the most effective capital allocation approaches in the sector are based on careful analysis of potential risks and the implementation of measures that can counter them.
We want to explain several things that you should be looking at when searching for a good destination for capital allocation.
This risk is due to the volatility of the crypto market in general and high-amplitude price fluctuations that are often associated with altcoins. The loss is called impermanent because it is not realized until you liquidate a position as prices may recover. There are many ways to hedge against this risk by short-selling staked assets with futures, margin trading accounts, or other derivatives.
Another good practice is to use impermanent loss calculators that can help you arrive at a reliable estimate of potential losses.
Flash loans are usually safe for users but can be exploited to take advantage of protocols themselves. In some cases, users can be affected too. It is hard to find a common denominator in flash loan attacks as they have different goals, purposes, and outcomes depending on the targeted protocol and its smart contracts.
A flash loan is a form of short-term lending that does not require collateral. While it can be useful to many investors in the DeFi ecosystem, it is imperative that the development teams carefully deploy smart contracts to avoid attacks.
Protocols can protect themselves from smart contract vulnerabilities by using three important approaches:
It is hugely important to work with protocols that pay extra attention to security measures and can roll out improvements quickly. While many contemporary blockchains are burying their heads in layer scaling solutions and trying to enhance throughputs, smart contract developers must forget about efficiency and make sure that they have a strong and secure foundation to protect users from potential risks associated with the DeFi ecosystem.
Many risks in the DeFi sector are novel and need adequate solutions. Decentralized insurance is a good example of how the ecosystem can self-regulate when facing unforeseen challenges. Insurance buyers purchase it from pools where providers store their assets. The vast majority of people who use this instrument are trying to protect themselves from losing everything by insuring against hacks, smart contract failures, attacks on protocols, and even sudden price fluctuations.
The premium paid by a buyer depends on a variety of factors including the type of coverage and the length of the insurance contract.
As a bonus, we want to compare several interesting yield farming protocols available to contemporary investors.
| Protocol | Aave | PancakeSwap | Aerodrome V1 |
| Supported chains | Ethereum, Arbitrum, Avalanche, Polygon, Optimism, Base, Scroll, BSC, Gnosis, Metis, ZKsync Era, Fantom, Harmony | BSC, Aptos, opBNB, Ethereum, Arbitrum, ZKsync Era, Base, Linea, Polygon zkEVM | Base |
| TVL | $15.08 billion | $1.75 billion | $1.29 billion |
| Token price | $175 | $1.8 | $1.35 |
| Token Mcap | $2.78 billion | $495 million | $925 million |
| Pools | 136 | 314 | 254 |
| Average APY | 3.38% | 36.13% | 57.3% |
| The biggest pool (TVL) | WSTETH ($3.41 b) | CAKE-WBNB ($40.9 m) | USDC-AERO ($150 m) |
| Pool APY | 0.01% | 3.43% | 47.93% AERO APY |
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