Decentralized Finance has been gaining traction for the last few years, and for a good reason. It gives financial access to people who would not get the benefits of the central banking system. With decentralized finance, anyone can borrow and lend in crypto without needing the requirements that come with the legacy banking system such as KYC. As DeFi grows in acceptance, the number of protocols serving the space has grown with platforms like MakerDAO now becoming more visible in crypto space. One of the platforms that have taken the DeFi space by storm is Aave (LEND).
What is Aave?
Aave is a protocol that allows people to create their own money markets in a decentralized environment. Aave launched its main net in 2017 at a time when most people did not even have an idea of what DeFi is all about. Simply put, Aave is a platform where people can borrow by agreeing on repayment terms with lenders, without involving a third party. The native token on the Aave ecosystem is dubbed LEND. At the moment, Aave (LEND) has a circulating supply of 1,299, 999,942, and a total supply of the same amount.
Aave was launched in 2017 by Stani Kulechov. The project started with the ETHLend ICO that raised $16.2 million on November 30, 2017. For the token sale, ETHLend partnered with Eidoo and worked with more than 5000 applicants for the token sale following a strict KYC policy. After a successful ICO, the project was rebranded to Aave in 2018. The goal was to integrate its platform with traditional technology offerings and grow further. Even after the rebrand, the team remained the same and was headed by Stani. Some of the other key players are:
- Jordan – Chief Operating Officer
- Rowan – Creative director
- Alexandra – Risk manager
- Emilio – Software engineer
- Ernesto – Software engineer
- Andrey – Software engineer
- Villle – Chief compliance officer
Finally, on January 8, 2020, the Aave protocol officially went live on the Ethereum mainnet with some innovative features such as;
- Flash loans, one of the most important features of Aave protocol, which enable users to borrow instantly without the need for collateral.
- Aave interest bearing tokens (aTokens), an innovative tokenization model that are minted upon deposit and burned when redeemed. As mentioned on Aave’s website, “The aTokens are pegged 1:1 to the value of the underlying asset that is deposited in Aave protocol. ATokens, such as aDai, can be freely stored, transferred, and traded”. Most importantly, the tokens collect interest in real-time that you can notice your wallet balance is increasing continuously.
- Stable rate model, works as a fixed-rate loan that protects borrowers from the volatility of variable interest rates.
- Rate switching allows users to switch between stable and variable rates, which helps to get the best interest rates.
- Perpetual loans enable users to get liquidity from their deposits without any repayment schedule. This could be possible by the over-collateralization of all loans, which is the primary goal of decentralized finance.
How does Aave work?
The working mechanism of Aave is pretty simple. You need to offer collateral that is larger (over collateralized) than the amount that you are borrowing. For context, when you want to borrow, you have to deposit coins in a pool. The pool then decides amongst itself, how much of the money in its possession it wants to lend out. The rest of the money is put in a reserve. The goal of the reserve is to protect lenders from the volatility that characterizes the crypto market. It also gives lenders the leeway to withdraw their money at any time. Once you deposit money into a pool, you can then go ahead and borrow an amount lower than the amount you have raised as collateral. If you are unable to repay the loan in the stipulated time, you automatically lose the amount you had raised as collateral. Similarly, if the dollar value of the amount raised as collateral falls below the required collateral level, they are also automatically liquidated. To collect data on prices about the assets offered as collateral on the platform, Aave employs Chainlink (LINK) oracles. The number of assets that one can borrow and lend on Aave is quite diverse. Some of them are as below:
- Dai (DAI)
- True USD (TUSD)
- Tether (USDT)
- Synthetix USD (SUSD)
- Binance USD (BUSD)
- Ethereum (ETH)
- ETHLend (LEND)
- Basic Attention Token (BAT)
- Enjin (ENJ)
- Ren (REN)
- Kyber Network (KNC)
- Chainlink (LINK)
- Decentraland (MANA)
- Maker (MKR)
- Augur (REP)
- Synthetix Network Token (SNX)
- Wrapped Bitcoin (WBTC)
- 0x (ZRX)
You are probably wondering how interest rates are decided, right? Well, just like in traditional banking, there are two types of interest rates on Aave, namely: Stable (Fixed) and Variable. The borrower has the option of choosing between the two. The stable rate is calculated as the average of interest rates in 30 days. On the other hand, the variable rate is determined by an algorithm based on the usage of funds in a pool. Usually, the higher the utilization of a pool, the higher the interest rates.
It is important to note that the Aave token is the native token to the Aave ecosystem. When one deposits coins with the goal of lending or borrowing, they are automatically converted into Aave tokens. The tokens are then added to the user’s Ethereum wallet and can be converted to the underlying asset. The Aave token (LEND) is also used to pay fees on the Aave protocol and is then burned. The protocol also intends to use the token for governance, which means that token holders can use them to vote on the direction the project takes in the future.
Another aspect of Aave that users need to understand is the concept of flash loans. This entails getting a loan without raising any collateral. For a flash loan to work, the crypto that is borrowed has to be repaid by the time the next Ethereum block is mined. Failure to repay means that all transactions that happened between the time of borrowing and the block mining are canceled. These loans are given for incredibly short periods and are mostly used by arbitrage traders.
Aave Technology and Advantages
Aave technology that allows people to create lending markets has several advantages as below:
It enables cross-border lending
With the traditional banking system, individuals can only borrow money within their home countries. This is due to the risks involved in cross-border lending and differing government regulations. The problem is that this denies millions of people access to crucial funding for their various business endeavors. With Aave, anyone from anywhere in the world can borrow in a free market environment provided they can raise the necessary collateral. Once this gains traction worldwide, it could open a global business in ways that the centralized banking system can never do.
It does not need a bank
Most people take the idea of having a bank account for granted. Unfortunately, this is the luxury that a lot of people do not have. Research shows that up to 2 billion people do not have a bank account. This means that those 2 billion people do not have access to loans that can help them change their lives. With Aave, one does not need a bank account to get financial services. As such, even the most remote societies that are unbanked have an opportunity to compete effectively with people who have access to the traditional banking system.
It’s an investment opportunity
The crypto market is still young, and prices are likely to stay volatile for a while. Crypto projects like Aave offer investors an option to make money as they await the markets to stabilize. That’s because investors can earn money by charging interest when lending crypto. Since the DeFi space is not yet fully developed, and competition is low, the interest rates can be quite high. This makes lending a good hedge for crypto volatility.
Aave eliminates the need for credit ratings
In the legacy banking system, a person’s ability to get their credit ratings to determine a loan—the better the credit rating, the better the chances of accessing a loan. Unfortunately, there are times when one falls into a bad credit rating due to unavoidable circumstances such as the current coronavirus pandemic. Aave eliminates this problem because there is no credit rating required. So long as one can raise the necessary crypto collateral, you can access a loan on the Aave DeFi protocol.
It is fast
Anyone who has ever tried to take a bank loan knows that it is a tedious process. You have to do a lot of paperwork; the bank will then review that for them to establish whether you are creditworthy or not. These are issues that one does not have to deal with when using Aave. With Aave, there are no central organizations involved, which means there is no paperwork. So one gets a loan fast no matter where the person is on the planet. Such efficiency is necessary, especially when one needs money for emergency reasons. They do not have the time to go through the lengthy and tedious processes of the traditional bank.
Perspectives and Takeaways
Aave, like other DeFi protocols, is changing finance. Opening up lending even to the unbanked will drive up financial inclusion in ways never seen before.
What’s even more impressive is how positive the crypto community is towards the technology. On July 13, 2020, Coindesk reported that Aave had started a new feature called credit delegation. With the new feature, Aave users will be in a position to set up credit lines that can be used for peer-to-peer lending. Using the new feature, an investor in Aave can deposit stable coins, and instead of using them as collateral, give the right to borrow to someone else. The investor delegating the role to borrow can then earn more interest since they are bearing higher risk.
The new feature attracted praise from multiple quarters, including Su Zhu, the CEO of Three Arrows Capital, a Singapore-based digital assets fund. Zhu said that,
“Aave’s introduction of credit delegation is groundbreaking.”
Such recognition goes to show that not only is DeFi going mainstream and getting accepted internationally, Aave as a DeFi project is gaining traction too.
The Aave team is cognizant of this fact and has been working to improve the project continually and meet the growing demand. Commenting on the addition of the new credit delegation feature, Aave CEO stated that,
“Most of the traction comes due to our wide asset selection that you can use as collateral and the ability to borrow flash loans without collateral, which has become a popular tool.”
In an earlier tweet, he acknowledged the growing DeFi space and highlighted the steps the project was taking to grow He said,
“Credit Delegation allows @AaveAave to scale DeFi TVL into financial debt markets worldwide, making DeFi the liquidity backbone of finance. The overall DeFi narrative expands from deposit capital; to DeFi to source capital from DeFi. As a lawyer, my passion in the space has been always to bring Smart Contracts and Law together to help end-user consumers. First, we brought earnings back to consumers, and now we are bringing the alternative liquidity for consumers by injecting DeFi liquidity into the debt markets.”
The above tweet hints at the direction that Aave is taking. The project is looking to become a bona fide alternative to finance 1.0, which operates outside of the control of centralized banking systems.
In essence, as crypto space grows in acceptance, the depth of Aave will grow as well. It is a validation of this project, as a serious player in crypto space, one with a good chance of long-term growth.
To learn more about Aave, check out their website on https://aave.com/
To follow this project’s technical development, check out their Github on https://github.com/aave/aave-protocol
You can also follow them on twitter at https://twitter.com/aaveaave
To contribute to the Aave community on Reddit, join https://www.reddit.com/r/Aave_Official/
How to store and manage LEND
There are multiple ways to store LEND. One of the best wallets for it is Atomic wallet. With Atomic, you retain control of your private keys, which makes it highly secure. With this wallet, you can also exchange your LEND for a wide variety of cryptos securely and anonymously.
The bottom line
Aave is changing finance by giving unbanked populations access to loans. The project is continually being improved and has completed most of its roadmap for the year 2020. For instance, on July 16, 2020, the project team announced that it’s adding new features to the platform. Some of them include adding new assets and the introduction of new risk parameters. These improvements can be seen on the project website or their Github page.