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Holding crypto assets is not the only way to make money in the crypto world. There are many other ways to earn passive crypto income, but yield farming and staking top the list. These two methods have worked well to provide a steady income without the high risks that come with trading cryptocurrencies. This article will answer all your yield farming and staking questions. Stick around to learn how these concepts work and how you can include them in your passive income strategies.
Is Yield Farming the Same as Staking?
The terms "yield farming" and "staking" are often thrown around in crypto forums, which might confuse you about whether they’re the same thing. Although some people use these terms interchangeably, they mean different things. Understanding the difference will save you from investing blindly. To help you do so, we will discuss what both yield farming and staking entail and then highlight their major differences.
So, What Is Yield Farming?
Yield farming, or "liquidity farming," is among the latest crypto-passive income opportunities. It lets you put crypto assets into a liquidity pool and get rewarded for doing so. It’s similar to earning interest from savings in a bank account. When you invest in yield farming, you become a yield farmer or liquidity provider.
How Does Yield Farming Work?
If you want to invest in yield farming, you must put your crypto assets in a liquidity pool to help them stay liquid. The assets are lent out to investors looking for funds for speculation or other purposes. The money made from the loans is distributed among yield farmers according to the invested amount. Smart contracts, which are computer codes that automate blockchain functions, handle the majority of these tasks.
Besides paying interest, most lending protocols also reward liquidity providers with native tokens. This increases your chances of making more money since your tokens could also gain value.
Liquidity pools are also crucial for automated market makers (AMMs). Unlike the traditional system that uses buyers and sellers, AMMs use liquidity pools to provide automated and permission less trading. They issue liquidity providers with special tokens (LP tokens) that make it easier to track their investments in liquidity pools.
Best-Yield Farming Protocols
There are many high-yield farms you can invest in today. They are hosted on different blockchains and offer varying rewards. Below are excellent yield farms to consider:
Curve Finance
Curve Finance has over $9.7 billion in total volume locked (TVL). This platform has an algorithm for making markets that lets it make the most money possible from the locked funds. Therefore, you are assured that your crypto assets will earn you handsome profits. Curve Finance offers an APY of around 10%.
Aave
With this open-source protocol, you can buy digital assets and earn AAVE tokens as interest. Aave also has a $21 billion TVL, which is among the highest in the market. Its APY is about 15%.
Uniswap
Uniswap is a popular AMM that requires you to invest on both sides of the liquidity pool to make money. It offers two protocols you can invest in - Uniswap V2 and Uniswap V3. Uniswap V2 has a TVL of $5 billion, while Uniswap V3 has around $2 billion.
Pancake Swap
This one requires investors to trade against the liquidity pool and has a computer-run market-maker system. It has a TVL of around $4.9 billion, and its APY goes up to 400%.
Those are some of the most popular yield farming protocols on the market. However, there are other great options you can also check out, such as:
- Compound
- Instadapp
- SushiSwap
- Venus Protocol
- Balancer
Risks of Yield Farming
Yield farming is a real way to invest and can help you make passive income from crypto assets that aren't being used. However, it also involves some risks. Below are some of the associated risks:
Rug Pulls
Rug pulls are among the most common scams in the crypto market. This refers to when a crypto developer takes people’s crypto funds and disappears without refunding them. This scam has been rampant over the last two years.
Volatility
Investing in volatile crypto assets, which can go into a bear market at any time, is what yield farming is all about. This can easily lead to a temporary loss, which is when the price of your crypto assets drops by a lot. So, even if you take out your money, it will be worth less than what you put in.
Smart Contract Risk
Most crypto platforms use smart contracts, which can sometimes be buggy. This can give hackers a chance to invade the system and steal crypto funds. For instance, Pickle Finance, a decentralized finance (DeFi) protocol, was hacked in 2020 and lost about $20 million.
Regulatory Risk
Governments are still keeping an eye on the crypto industry because there are no clear rules for crypto assets yet. Many governments worry that the lack of rules in the industry could lead to illegal activities, which is why they want to regulate it. So, they are currently devising ways to regulate the industry. So, it's still not clear how the proposed rules might affect the cryptocurrency industry and your investments.
What is Staking?
Staking is the process of locking up digital assets in a blockchain network to help verify transactions and keep the network safe. Investors are paid interest depending on the amount staked.
How Does Staking Work?
Blockchains that employ the Proof of Stake (PoS) consensus mechanism use staking, in contrast to Bitcoin, which uses Proof of Work (PoW). A PoS mechanism does not require much energy to run. So, it’s cheaper and simpler than its PoW counterpart. This mechanism also uses validator nodes to process transactions, which is more energy-efficient.
You can make money staking by being a validator or staker. To be a validator, you need technical skills to operate validator nodes. It’s also time-consuming, making it a less viable option if you are looking for an easy way to make passive income.
Crypto platforms allow you to stake assets and then leave the technical part to them. That way, you can make money without handling any tasks. You can stake assets on platforms such as Coinbase, Kraken, and Binance.
Top Crypto Assets to Stake
Crypto platforms offer many staking cryptocurrencies to choose from. However, their interest rates vary. Therefore, checking out different options will help pick the most profitable one. Here are some of the most popular and best cryptos for staking:
Risks of Staking
Volatility Risk
Volatility is a huge risk that stakers face because if the invested asset enters a bear market, you might lose money. Therefore, you should not choose staking tokens based solely on annual percentage yield (APY). Always research the volatility too.
Lockup Periods
Most cryptocurrency platforms require you to lock your assets for a set period of time. So, you can’t access the crypto funds until the agreed-upon period ends. Although this can be a good idea for earning consistent passive income, it could also be a trap. Why? If volatility goes up, you can't take your money out of the market, so you're sure to lose.
Rewards Duration
Crypto platforms have varying reward periods. Some companies pay out rewards on a daily basis, while others only do so once a year. If you invest on a platform that gives you staking rewards once a year, you won't be able to reinvest often.
Loss or Theft
Most crypto platforms require you to set up a private key to protect your digital assets. But if someone who shouldn't have access to it gets their hands on the private key, they can easily steal your assets. You could also lose crypto assets if your platform has unreliable security systems.
Yield Farming vs. Staking: The Differences
You have probably noted some differences between yield farming and staking by now. However, we will still discuss some of their major differences to make them clearer to you.
Let’s dive in.
Complexity
Staking is usually simpler than yield farming because all you have to do is look for a good staking pool and invest in it. Although, you do the same in yield farming, you might also need to regularly switch tokens or even platforms, which can be time-consuming. This can also be expensive since changing yield farming pools causes extra gas fees. Therefore, yield farming is more complex than staking.
Risk Level
Yield farming is pretty common on new crypto platforms, which increases the risk of rug pulls. Rug pulls are rare in PoS networks that have been around for a while, so you probably won't experience one when staking. Also, staking requires less capital, making it a better option for risk-averse investors.
Impermanent Loss
Yield farming exposes you to cyclical loss. The loss could even be higher if you had invested in two volatile crypto assets. The loss is called "impermanent" because it’s only realized if you withdraw the assets. If you withdrew assets at a loss, you would have been better off holding them than investing in them. Find out more about impermanent loss in staking.
Profitability
Yield farming is riskier than staking but more rewarding. Most staked rewards range between 5% and 14%. On the other hand, yield farming rewards can go up to 1,000%. For instance, PancakeSwap offers an APY of about 400%.
Duration
In order to get rewards from staking, you have to lock away crypto for a long time. Yield farming does not.
Security
Hackers fish for bugs in "yield farming" smart contracts to help attack the system. As a result, farmers are more likely than other stakeholders to experience security breaches. The PoS mechanism also makes staking more secure since a cybercriminal’s attempt to dupe the system may cause them to lose their staked assets.
See also: Staking vs. Mining.
Which One Is a Better Short-Term Investment?
Staking is a great short-term investment because it gives more steady returns than yield farming. So, you can lock up crypto assets for as long as you need to and then withdraw them if you don't want to reinvest.
Which One Is a Better Long-Term Investment?
Yield farming doesn't lock up your crypto funds, and it lets you spread out your holdings. So, you can easily switch between platforms to make sure you're always getting the best deal. This could enable you to make lots of money in the long term.
Even though yield farming and staking have different benefits for investing, they can both be changed to fit a short-term or long-term plan. For instance, you could stake your assets for longer periods, allowing you to use staking as a long term investment. Therefore, the option that fits your investing strategy is pretty individual.
Conclusion
Yield farming and staking are certainly great ways of putting idle crypto assets to work. However, you must first understand how they work before investing in them. Yield farming seems riskier but also highly rewarding. On the other hand, staking is less risky but also less profitable. Hopefully, this comparison has helped you determine your best fit.
Disclosures
The content is only provided for informational purposes. It is not meant to be tax or financial advice, and it does not recommend any particular investment plan. Every investment has risk, including the possibility of a cash loss. Past performance does not guarantee future results.
Bitcompare does not guarantee good investment outcomes. The way a security or financial instrument did in the past does not show how it will do in the future. Before investing in options, clients should carefully assess their financial goals and risk tolerance. Due to the importance of taxes in all staking transactions, a customer who is thinking about staking should talk to a tax expert to find out how taxes affect the outcome of any staking strategy.
