Staking vs Yield Farming: What’s the best way to earn passive income from cryptocurrencies?
Yield Farming delivers more returns for crypto investors but is it riskier than staking? Find out
As the cryptocurrency space keeps evolving, blockchain developers keep finding newer ways to enable investors to earn passive income from their existing crypto investments.
The buzz around yield farming began in 2020 alongside staking, and it continues to thrive in the DeFi space. Prior to these opportunities, Proof of Work (PoW) mining was the means for users to earn cryptocurrencies.
If we compare staking to yield farming, it is undoubtedly more profitable to provide liquidity to Decentralized Exchanges (DEX) — the reason why more investors are eager to know more about yield farming.
But is yield farming riskier than staking your crypto? Let us understand these concepts to know about the risks involved.
What is Yield Farming?
At a basic level, Yield Farming means lending crypto assets to DeFi platforms to earn fixed or variable interest.
DEXs are the backbone of the DeFi market, and to facilitate trades, they rely on investors willing to provide liquidity in exchange for a portion of the platform’s fees. It involves locking up your funds in a liquidity pool, which are smart contracts that contain funds.
The farmers have the option to lend their assets for as long as a year or as short as they want and earn fees on a daily basis. The math is simple, the more he lends, the higher the rewards he earns.
Read: Why Are More Countries Adopting Bitcoin As Legal Tender?
The yield rates are competitive and keep changing and are the main reason why liquidity providers keep switching between platforms offering competitive Annual Percentage Yield (APY). As users keep switching platforms, they end up paying gas fees every time they leave or enter a liquidity pool.
Liquidity providers need to pay gas fees every time they leave or enter a liquidity pool.
What Is Staking?
Derived from the Proof of Stake (PoS) consensus mechanism, Staking is an energy-efficient alternative to Proof of Work (PoW) consensus.
A solution to the energy-intensive PoW, where users need computational power to solve complex mathematical problems, stakers act as nodes, stake their crypto, and confirm blocks.
In Proof of Stake, users have to set up a node and join any PoS network to become a validator. However, centralized and DEXs offer staking to their users without worrying about the technicalities of setting up a node. Users provide their crypto assets, and the platform or exchange takes care of the validating process, allowing users to stake multiple assets.
In short, the aim of staking is not to create liquidity but to secure a blockchain network. More stakers make the blockchain decentralized and secure against attacks.
Yield Farming vs Staking
Staking offers returns in the range of 5% to 12%, while yield farming offers better APY rates. Platforms like Uniswap, Pancake Swap, Aave, Curve finance offer between 2.5% to 250% Annual Percentage Rate (APR).
Farming might offer competitive returns, but it is also prone to higher risks. Higher gas fees can eat away any profit users might have made on the APY rates. There is also a risk of losing the profits if the markets turn extensively bearish or bullish.
Staking comes with its disadvantages too –
a) It offers low APY rates
b) Lock in period
As mentioned above, the returns on staking are a fraction of what users can earn through farm yielding. Few exchanges or companies have a lock-in period, and stakers aren’t allowed to move or sell their assets during this period. This can range from a couple of months to years, and users risk losing their crypto investments if the market changes from a bull market to a bear market without a warning.
To summarize, investors can earn far greater rewards through yield farming than traditional investments, but the high rewards come with higher risks.
How do you earn passive income on your cryptocurrency investments? Comment below to share!
