DeFi

DeFi (decentralized finance) is financial services built on smart contracts: swaps, loans and yield with no bank or exchange in between. You control the funds yourself through your own wallet.

How it works

In DeFi, code plays the middleman. A decentralized exchange (DEX) swaps tokens through liquidity pools, a lending protocol gives loans against crypto collateral, and rates are set automatically by supply and demand. You connect your own wallet and sign transactions; there is usually no account and no KYC.

Every action costs gas, the network fee, and protocols charge their own fees too. DeFi loans are almost always over-collateralized: to borrow $500 you lock up more, say $1000. If the collateral's value drops below a threshold, the protocol liquidates it automatically.

The risks are serious: code bugs and contract hacks, price oracle failures, liquidations, phishing sites and pump-and-dump tokens. If funds are stolen from a smart contract there is usually nobody to get them back: there is no support desk.

Example with numbers 1

You deposit $1000 of ETH into a lending protocol and borrow 500 USDC. The liquidation threshold is 80%: the position is closed if the debt exceeds 80% of the collateral value. That happens when the collateral drops to $500 / 0.8 = $625, meaning ETH falls 37.5%.

Example with numbers 2

You swap 1000 USDC for ETH on a DEX with a 0.3% pool fee. The pool takes $3, plus network gas and possible slippage if the pool is small.

Common mistake

The most common mistake is chasing high yield without understanding where it comes from. If a protocol promises 100% a year, ask who is paying for it: often it is inflation of its own token or a scheme that will collapse. Start small, check the site address, revoke approvals you no longer need, and never put in money you cannot afford to lose.

Questions and answers

What is DeFi in simple terms?

It is finance without a bank: swaps, loans and deposits run on smart contracts, and you keep the money in your own wallet.

How is DeFi different from a regular exchange?

On a centralized exchange a company holds your money and offers support. In DeFi you deal with code directly from your wallet: more control, but all the responsibility is yours.

Is DeFi safe?

It is riskier than it looks: contract hacks, liquidations, phishing and scam projects. Stick to well-tested protocols, start with small amounts and never type your seed phrase into a website.

DeFi

How it works

Questions and answers

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