As an emerging field, “Decentralized Finance” (DeFi) combines blockchain technology, and digital assets, with traditional banking services. Protocols for decentralized finance (DeFi) attempt to eliminate the need for traditional financial intermediaries by using novel service models. Beginning in 2020, the DeFI market proliferated. DeFi Pulse, a platform that collects data on the value of digital assets locked inside DeFi services, reports that this value increased from less than $1 billion in 2019 to more than $15 billion by the end of 2020 and more than $80 billion by May 2021.

Although still in its infancy, DeFi takes the core concept of cryptocurrency – digital money — and builds on it, providing a digital alternative to traditional or centralized finance (CeFi), and providing consumers direct peer-to-peer access to capital, loans, and other financial services. For those who have access to the internet, this enables more democratic and egalitarian financial markets.

As a broad concept, the term “DeFi” may apply to many contexts, including different categories of businesses and financial services. The blockchain community calls these DeFi services or products “DeFi protocols.”

In this article, we will look at the different categories of DeFi protocols. But first, let’s dive into the definition of “DeFi protocols.”

What is a DeFi Protocol?

A DeFi protocol or decentralized application (dApp) is a set of rules or standards to control different blockchain activities, including lending, borrowing, stablecoins, and crypto exchange platforms. These protocols employ smart contracts on Ethereum or any other programmable blockchain to decentralize and automate financial services by replacing intermediaries such as banks with simple computer programs.

Due to their complete transparency about transaction data and network activity, DeFi protocols offer new ways to find information, analyze it, and make financial possibilities and risk management decisions. In the same way, they ensure compatibility and liquidity in the DeFi ecosystem, which lets startups and businesses make decentralized apps or services (dApps).

These dApps may include guidelines and standards in line with established real-world businesses and financial services for participants in multiple sectors.

The top DeFi protocols have grown significantly during the last two years. By the end of 2020, the entire value of DeFi’s locked-in assets surpassed the $12 billion threshold, making it an excellent year for the industry.

What are the Different Categories of DeFi Protocols?

DeFi protocols generally make up an interconnected ecosystem of DApps and smart contracts, most of which run on Ethereum, the most popular smart contract blockchain platform. Several sub-categories further define DeFi services or protocols:

  • Decentralized Exchanges (DEXs):

The term “decentralized exchanges” (DEXs) refers to decentralized cryptocurrency exchanges that enable users to conduct peer-to-peer transactions and retain ownership of their assets. Decentralized exchanges (DEXs) mitigate price manipulation, hacking, and theft risks since there is no central authority to hold the crypto assets.

DEXs provide token projects with access to liquidity that rivals centralized exchanges and achieves this without the accompanying listing fees. Until recently, it cost millions of dollars for a project to list its token on a central exchange.

Popular DEXs in the DeFi space currently include AirSwap, Liquality, Mesa, Oasis, and Uniswap.

  • Stablecoins:

Pegged to a stable asset or portfolio of assets like fiat money, gold, or even other cryptocurrencies, a stablecoin is a kind of cryptocurrency that is very reliable and consistent in its value. The initial goal of stablecoins was to stabilize cryptocurrency values and make blockchains a practical means of doing financial transactions. Users across the DeFi ecosystem now use them for many reasons, including remittance payments, lending and borrowing platforms, and even institutional use cases like central bank digital currency (CBDC). The LendeXe XSD stablecoin is a kind of risk mitigation as it is backed (hedges) the top 3 stablecoins (USDT, USCD & BUSD). Especially in times of inflation, it is a good way to avoid losses in the portfolio due to falling prices.

  • Lending and Borrowing:

Some of the most popular protocols in the DeFi ecosystem facilitate peer-to-peer lending and borrowing. For instance, LendeXe P2P Lending is a DeFi application that use Compound, an algorithmic, autonomous interest rate protocol. Lending pool participants may earn interest on their cryptocurrency using Compound, an Ethereum-based interest rate market. By automatically matching borrowers and lenders, the Compound smart contract determines the interest rate depending on the ratio of borrowed to provided assets.

Compared to the traditional credit system, open lending protocols like LendeXe P2P Lending offers significant benefits to users. These include the flexibility to collateralize digital assets, fast settlement, and no credit checks.

  • Compliance and KYT (Know-your-Transaction):

Know-your-customer (KYC) regulations are the backbone of traditional financial institutions’ adherence to regulations on anti-money laundering (AML) and countering-the-financing-of-terrorism (CFT). Ethereum’s distributed architecture allows for next-generation compliance analysis in the DeFi domain based on the actions of participating addresses rather than the identities of individual users. Services like MetaMask Institutional KYT provide real-time risk assessment and defense against financial crimes like fraud.

  • Governance (DAOs):

Decentralized Finance or DeFi protocols enable the development and execution of Decentralized Autonomous organizations (DAOs) as autonomous, transparent, and community-driven governance.

Without a central authority figure, a DAO can run itself via the transparent rules developers write into the Ethereum blockchain. Maker and Compound are among the most prominent examples of DeFi platforms that have launched DAOs to facilitate fundraising, financial management, and community-driven governance. LendeXe will also become a DAO in the future.

  • Fund Management:

With DeFi protocols, you control your cryptocurrency funds. Using a cryptocurrency wallet like MetaMask, Gnosis Safe, or Firefly, you can buy and sell cryptocurrency, make transfers, and earn interest on your digital holdings through decentralized apps safely and efficiently. Wallets like MetaMask store your seed phrase, credentials, and private keys in an encrypted file on your device. This way, only you can get into your accounts and data in the DeFi space.

For businesses with stricter institutional grade criteria for allocating money into DeFi, the rules of the game shift. Wallets like MetaMask Institutional make it easier for these institutions to conduct crypto economic research, adhere to pre-and post-trade compliance requirements, execute the best possible trades, report on their activities, and store their cryptocurrency.

  • Asset Management:

Asset management protocols like Mirror and Numeraire enable users to build and optimize asset portfolios according to user-specified parameters such as risk tolerance, investment horizon, diversification, and time horizon.

  • Insurance:

The potential for smart contract vulnerabilities and breaches is one of the many reasons why DeFi is still a developing field. Various cutting-edge insurance options have entered the market to assist customers in buying insurance and safeguarding their assets. Examples of such solutions include Nexus Mutual, which offers a Smart Contract Cover to protect against unauthorized programmatic access to smart contracts.

  • Derivatives:

Smart contracts enable the development of tokenized derivative protocols such as Synthetix. In prediction markets, individuals can make “shares” that represent a part of the value of what will happen in elections, sports, and market events. Or they can trade real-world assets like stocks, foreign exchange, and commodities as crypto-denominated tokens.

  • Lottery:

DeFi’s modularity has allowed product developers to incorporate DeFi protocols onto existing platforms in various industries. Due to their integrated economies and novel incentive mechanisms, Ethereum-based lotteries have become a prominent use case for decentralized finance.

For instance, PoolTogether is a no-loss audited savings lottery that allows participants to buy virtual tickets by making deposits in DAI stablecoins. The PoolTogether smart contract then deposits and pools these tickets and leases them to the Compound money market protocol for generating interest.

The Takeaway – Future of DeFi Protocols

The growing DeFi ecosystem includes many fantastic protocols or services, such as tokenization, trading, savings, prediction market, DAO, and many more. As the DeFi ecosystem develops, businesses will transfer traditional financial services to the open source and decentralized market, eliminating the need for intermediaries, saving costs, and substantially increasing security. LendeXe products are part of this innovative new ecosystem.