Yield Farming: What Is It and How Does It Work? (2024)

FAQs

What is yield farming and how does it work? ›

Yield farming refers to depositing tokens into a liquidity pool on a DeFi protocol to earn rewards, typically paid out in the protocol's governance token. There are different ways to yield farm, but the most common involve depositing crypto assets in either a decentralized lending or trading pool to provide liquidity.

There are many approaches to yield farming, but the common starting point is depositing crypto you already own into a decentralized finance platform that promises returns or yield. The types of crypto accepted vary by platform, but stablecoins are widely used.

Yield farming involves users lending or staking their cryptocurrencies in smart contracts to facilitate various financial activities, such as trading, lending, or borrowing. The yields (returns) offered by DeFi protocols during DeFi Summer of 2020 were often incredibly high, sometimes exceeding 100% per year.

The potential rewards of high yields and lucrative incentives make it a tempting venture. However, it is important to approach Yield Farming with caution due to the various risks involved, such as smart contract vulnerabilities, impermanent losses, and market volatility.

What is yield? Yield refers to how much income an investment generates, separate from the principal. It's commonly used to refer to interest payments an investor receives on a bond or dividend payments on a stock. Yield is often expressed as a percentage, based on either the investment's market value or purchase price.

While yield farming may be seen as an alternative to holding cash on deposit in a savings account, it's far less safe. Here are a few reasons why: There's no insurance on your assets. Banks in the United States include federal deposit insurance up to $250,000 per account.

Do I pay income tax for yield farming? When you earn cryptocurrency without trading away your existing holdings, your yield farming rewards will more likely be subject to income tax.

How do farmers increase yield? ›

Some intensive farming can also mean keeping livestock in smaller pens with regulated temperatures. This reduces the energy they need for movement and temperature regulation and so maximises their size and yield. Some animals are fed high protein foods to increase their growth. They can also be fed antibiotics.

Key Takeaways. Yield farming is a high-risk, volatile investment strategy where an investor stakes, or lends, crypto assets on a decentralized finance (DeFi) platform to earn a higher return. An investor receives payment of the return in additional cryptocurrency.

You should also set up a decentralised wallet like Metamask or CoolWallet to leverage the true potential of yield farming. Overall, Yield Farming has vastly improved since 2020, and can be profitable in some cases, but it remains a high-risk, high-reward investment strategy.

Investment risks

Yield farming protocols are subject to a variety of risks that can lead to loss of user funds. Losses could occur due to price fluctuations of tokens, including impermanent loss, when the price of one token changes in relation to the other during the time that the coins are locked in a liquidity pool.

Yield farming and staking are both ways to earn passive income. Users who do not wish to trade crypto may be able to generate revenue on their holdings through yield farming and staking. Although each strategy offers different benefits and risks, both can be used to generate returns.

Crop yield can also refer to the actual seed generation from the plant. A grain of wheat yielding three new grains of wheat would have a crop yield of 1:3. Crop yield is sometimes referred to as "agricultural output."

Yield - Refers to the volume, count or weight of final usable product, net of dockage or deductions for unusable product, low quality, or otherwise rejected per unit of land. The “crop" is what you're growing. The “harvest" is bringing it in once it's grown.