Thread by @amrali0fx

#Week_2: #DeFi Day 5: Decentralized Finance: On Blockchain- and Smart Contract-Based Financial Markets by @chainomics part 2

*Smart Contract-Based Reserve Aggregation.
Here: The smart contract will compare prices from all liquidity providers, accept the best offer -

2- on behalf of the user, and execute the trade. It acts as a gateway between users and liquidity providers, ensuring best execution and atomic settlement.

*Peer-to-Peer Protocols: It is an alternative to exchanges or liquidity pools, also called over-the-counter (OTC) protocol

3- They mostly rely on a two-step approach, where participants can query the network for counterparties who would like to trade pair of crypto and then negotiate the exchange rate bilaterally. Once the two parties agree on a price, Trade is executed on-chain via a smart contract

4- *Decentralized Lending Platforms,
Loans are an essential part ofDeFi . There are a variety of protocols that allow people to lend and borrow cryptoassets. Decentralized loan platforms are unique in the sense that they require neither the borrower nor the lender to -

5- identify themselves. Everyone has access to the platform and can potentially borrow money or provide liquidity to earn interest. As such, DeFi loans are completely permissionless and not reliant on trusted relationships.
For protection: there is 2 approaches, 1st: Flash loans

6- =credit can be provided under the condition that the loan must be repaid atomically, meaning that the borrower receives the funds, uses, and repays them—all within the same blockchain transaction, other wise the transaction will be invalid and the results are reverted

7- So, they are an efficient new instrument for arbitrage and portfolio restructuring.

Second, loans can be fully secured with collateral. The collateral is locked in a smart contract and only released once the debt is repaid.

There are 3 types to discuss,

8- *Collateralized Debt Positions; Some DeFi applications allow users to create collateralized debt positions and thereby issue new tokens that are backed by the collateral. To be able to create these tokens, the person must lock cryptoassets in a smart contract. Eg, Makerdao-DAI

9- Here, you borrow stablecoin $DAI, and put 150% of the value borrowed as collateral (ETH mainly),
The loan can be used for consumption, allowing the person to overcome a temporary liquidity squeeze or to acquire additional cryptoassets for leveraged exposure.

10- *Collateralized Debt Markets; Instead of creating new tokens, it is also possible to borrow existing assets from someone else. So this approach requires a counterparty with opposing preferences. meaning: For someone to to borrow ETH, Other person must be willing to lend ETH.

11- For interest Rates for sure! the demand decide the rate.
There is a large variety of lending protocols, like @dYdX @AaveAave and @compoundfinance

*Decentralized Derivatives; They are tokens that derive their value from an underlying asset's performance,--

12- The outcome of an event, or the development of any observable variable. They usually require an oracle to track these variables= introducing some dependencies and centralized components. but it can be reduced when the derivative contract uses multiple independent data sources

13- We differentiate between asset-based and event-based derivative tokens. We call asset-based one when its price is a function of an underlying asset's performance. We call an event-based one when its price is a function of any variable that is not the performance of an asset

14- *On-Chain Asset Management;
Just like traditional investment funds, on-chain funds are mainly used for portfolio diversification. They allow users to invest in a basket of assets and employ a variety of strategies without having to handle the tokens individually. In contrast-

15- to traditional funds, the on-chain variant does not require a custodian. Instead, the cryptoassets are locked up in a smart contract. The investors never lose control over their funds,
The smart contracts are set up in a way that they follow a variety of simple strategies-

16- As automatic rebalancing of portfolio weights and trend trading, using moving averages.

On top, asset managers are limited to actions in accordance with the fund's ruleset and the risk profile stipulated in the smart contract
Leading to lower fund setup and auditing costs.

17- Further more; Smart contracts force the managers to stick to the funds' strategies. Trading restriction parameters such as maximum concentration, price tolerance, and the maximum number of positions, as well as user and asset whitelists and blacklists.

18- *OPPORTUNITIES of Defi; DeFi may increase the efficiency, transparency, and accessibility of the financial infrastructure. Moreover, the system's composability allows anyone to combine multiple applications and protocols, thereby creating new and exciting services.

19- Efficiency: While much of the traditional financial system is trust based and dependent on centralized institutions, DeFi replaces some of these trust requirements with smart contracts. The contracts can assume the roles of custodians, escrow agents, and CCPs.

20- Similar efficiency gains are possible for almost every area of the financial infrastructure.

Additionally, token transfers are much faster than any of the transfers in the traditional financial system.

Transparency: All transactions are publicly observable-

21- And the smart contract code can be analyzed on-chain. The observability and deterministic execution allow at least in theory* an unprecedented level of transparency.

Accessibility: DeFi can be used by anyone. Creating a genuinely open and accessible financial system

22- and Composability for sure, one of the prominent features.

*Risks: DeFi also has certain risks, namely, smart contract execution risk, operational security, dependencies on other protocols and external data, illicit Activity and scalability

23- CONCLUSION; DeFi has unleashed a wave of innovation. On the one hand, developers are using smart contracts and the decentralized settlement layer to create trustless versions of traditional financial instruments.

24- On the other hand, they are creating entirely new financial instruments on top of underlying public blockchain; Atomic swaps, autonomous liquidity pools, decentralized stablecoins, and flash loans are few of many examples that show the great potential of this ecosystem.

25- If the issues they face keep getting resolved; DeFi may lead to a paradigm shift in the financial industry and potentially contribute toward a more robust, open, and transparent financial infrastructure.
for the full article:research.stlouisfed.org/publications/r… thanks for prof @chainomics