The compound protocol allows its community to capitalize on investment through its token COMP. COMP is the most contributing lending protocol in the DeFi ecosystem. It became the first DeFi protocol to introduce yield farming to the crypto community. Since then, it has gained global recognition in the industry.
Before we proceed to explore the decentralized protocol, let’s do a brief recap of Decentralized Finance.
Decentralized Finance (DeFi)
Decentralized Finance allows users to secure financial services without the use of third parties. It aids users to do so in a private and decentralized manner over the internet.
The DeFi allows users to run transactions such as saving, trading, earning and lending, etc. It facilitates all transactions that can be carried out in your local banking system—but solving the issue of a centralized system.
The DeFi environment includes cryptocurrencies majorly and not fiat currencies. Except for a few stablecoins – stablecoins are cryptocurrencies that peg their values from fiat currency values.
A vast majority of DeFi applications are based on the Ethereum Blockchain just like Compound.
What is Compound Protocol?
Compound (COMP) is a decentralized protocol that provides lending services through its yield farming features. It was created in 2017 by Geoffrey Hayes (CTO Compound) and Robert Leshner (CEO Compound) of Compound Labs Inc.
Compound Finance gives its users access to save, trade, and utilize the asset in other DeFi applications. Collaterals are being locked up in smart contracts, and interests are generated based on demands from the market.
The COMP token is the governance token released for the Compound protocol. On its release, the Compound protocol seized from being a centralized protocol to becoming a decentralized protocol.
On June 27th, 2020, it was the first platform to bring yield farming to the limelight. COMP is an ERC-20 token; these tokens are created using the Ethereum Blockchain for accessing and developing smart contracts in the blockchain.
The ERC-20 token emerged as one of the most critical Ethereum tokens, which has evolved into being the standard tokens for the Ethereum Blockchain.
Users fund the system through liquidities they supply to large borrowing pools. As a reward, they receive tokens that they can convert into any supported asset in the network. Users can also take out loans of others assets on the network on a short-term basis.
They’ll pay interest for each loan they take, which is shared between the lending pool and the lender.
Like staking pools, the yielding pools reward their users based on how long they participate and how much crypto the individuals lock in the pool. But dissimilar to the staking pool, the period permitted for one to borrow from the pooling system is much shorter.
The protocol allows users to borrow and lend up to 9 ETH-based assets, including Tether, Wrapped BTC (wBTC), Basic Attention Token (BAT), USD-Token (USDT), and USD-Coin (USDC).
At the time of this review, a Compound user can receive over 25% annual interest, which is also termed APY—when lending the Basic Attention Token (BAT). Regulations such as Anti Money Laundering (AML) or Know Your Customer (KYC) do not exist on Compound.
Also, due to the high appreciation in the value of the COMP token, users can even earn over 100% APY. Below we’ve outlined brief components of the COMP.
Features of COMP Token
- Time Locks: all administrative activities are required to reside in Timelock for at least 2 days; after that, they can be implemented.
- Delegation: COMP users can delegate votes from the sender to a delegatee—one address at a time. The number of votes sent to a delegate becomes the equivalent of the COMP balance in that user’s account. The delegatee is the token address to which the sender delegates their votes.
- Voting Rights: token-holders can delegate voting rights to themselves or any address of their choice.
- Proposals: Proposals can modify the protocol parameters, or add new features to the protocol, or create accessibilities to newer markets.
- COMP: The COMP token is an ERC-20 token that gives the token holders ability to delegate voting rights to each other, even themselves. The more weight of the vote or proposal a token-holder has, the more the weight of the user’s vote or delegation.
How Does Compound work?
An individual using Compound can deposit crypto as a lender or withdraw as a borrower. Lending, however, is not through direct contact between the lender and borrower— but the pool acts as an intermediary. One deposits into the pool, and others receive from the pool.
The pool consists of up to 9 assets which include Ethereum (ETH), Compound Governance Token (CGT), USD-Coin (USDC), Basic Attention Token (BAT), Dai, wrapped BTC (wBTC), USDT, and Zero X (0x) cryptocurrencies. Each asset has its pool. And in any given pool, users can borrow only an asset value that’s lower than they deposited. There are two factors to consider when one wants to borrow:
- Market cap of such token, and
- Liquidity invested.
In Compound, for every cryptocurrency you invest, you’d be given a corresponding amount of cTokens (which, of course, is higher than your Liquidity invested).
These all are ERC-20 tokens and are a mere fraction of the basic asset. cTokens give users the ability to earn interest. Progressively, users can acquire more underlying assets with the number of cTokens they have available.
Due to a drop in the price of a given asset, if the amount borrowed by a user is greater than he’s permitted, there can be a risk of collateral liquidation.
Those holding the asset can liquidate it and rebuy it at a cheaper price. On the other hand, the borrower can choose to pay a given percentage of their debt to increase their capacity of borrowing over the previous limit upon their liquidation.
Benefits of Compound
- Earning ability
Any user of the Compound can earn passively from the platform. Earning can be done through lending and unused cryptocurrency.
Prior to the emergence of Compound, idle cryptocurrencies were left in their given wallets, hoping their values will surge. But now, users can profit from their coins without losing them.
Security is a vital consideration in the cryptocurrency ecosystem. Users shouldn’t be worried about it when it comes to Compound protocol.
High profiled establishments such as Trail of Bits and Open Zeppelin have performed series of security auditing on the platform. They have certified the coding of the Compound network as reliable and able to secure network demands.
Compound follows the universal concurrence of Decentralized Finance in terms of interactivity. The platform has made it available to support other applications.
To create a better user experience, Compound also allows for API protocol usage. Thus, other platforms build upon the big picture Compound has created.
The network utilizes smart contracts which are fully audited to achieve this independently and automatically. These contracts handle very important functions on the platform. They include management, supervision of the capitals, and even storage.
The COMP token provides a lot of advantages for the crypto market. To start with, it provides users the ability to lend and borrow capital from the farming pool available in the Compound Network. There is no need for traditional banking regulations; you bring your collateral and are granted the funds.
Liquidity Mining in Compound
Liquidity mining was proposed to provide inducements for both the borrower and the lender to utilize the Compound protocol. Why so? If users are not active and available in the platform, slowly, there will be depreciation in the platform, and the token will decline following protocols in the DeFi environment.
To solve this forecasted challenge, both parties (lender and borrower) are rewarded in COMP token, resulting in high consistency in liquidity level and activity.
This rewarding is done in a smart contract, and the COMP rewards are being disseminated using a few factors (i.e., number of participating users and the interest rate). Currently, there are 2,313 COMP tokens shared throughout the platform, splitting into equal halves for both lenders and borrowers.
This is the dedicated token for the Compound protocol. It gives its users the ability to control (govern) the protocol, allowing them to contribute to the future. A user uses 1 COMP to vote, and other users can be delegated to these votes without transferring the token.
To make a proposal, a COMP token holder must have at least 1% of the entire COMP supply available or delegated to him from other users.
On submission, the voting process will take place for 3 days with at least 400,000 votes cast. If more than 400,000 votes affirm a proposal, the modification will be implemented after 2 days of waiting.
The Compound (COMP) ICO
Earlier on, the Initial Coin Offering (ICO) for the COMP token wasn’t available. Rather, investors were allocated 60% of the 10 million COMP supply. These investors include the founders, team members at the point, team members to come, and growth in the community.
More specifically, a little above 2.2 million COMP token was allocated to its founders and team members, and a little below 2.4 million COMP were handed over to its shareholders; a little below 800,000 COMP have been made available for initiatives of the community, while below 400,000 were secured for forthcoming members of the team.
The rest is 4.2 million COMP tokens that will be shared with users of the Compound protocol for 4 years (which initially started as a daily distribution of 2880 COMP daily but has been adjusted to 2312 COMP daily).
However, it is important to recognize that the 2.4 million tokens allocated to the founder and team members of the token, will be redeployed back to the market after the 4-year span elapses.
This will permit change. During this period, the founder and the team can control the token through voting, then transit into a fully independent and autonomous community.
Cryptocurrency Yield Farming
One thing about Compound that draws users to it is the ability to utilize a number of DeFi protocols, smart contracts in such a way that they receive unimaginable high interest rates.
In the crypto community, this is referred to as “yield farming.” This involves a combination of lending, trading, and borrowing.
The DeFi yield farming, leverages DeFi products and protocols to generate huge returns; occasionally, some reach over 100% AYI when calculating bonuses on incentives and cashback.
Yield farming is considered incredibly risky, and some speculate it to be a variety of margin trading. This is caused by the fact that users can make a trade with a number of cryptocurrencies much larger than the amount they put into the pool.
Some categorize it into a pyramid scheme, only that the pyramid is turned upside down. The full system relies basically upon the major asset a user is trying to gather up. The asset has to either stay stable or appreciate the value in price.
The cryptocurrency asset you are trying to accumulate determines the specifics of yield farming. For COMP, yield farming involves heightening returns in COMP tokens for participating in the network as both a borrower and a lender. This permits users to make money from borrowing crypto using Compound.
Compound Yield Farming
Compound yield farming is done in a network known as InstaDapp, which permits a user to interact together with a variety of other DeFi applications from one point of reference.
InstaDapp provides a feature that can result in more than 40x profiting returns in COMP token—this feature is called “Maximize $COMP”. To be concise, any amount of COMP token you have in your wallet, has a value, that has more value, than the value you owe to the fund you borrowed from the pool.
A short example to illustrate, let’s assume you have 500 DAI, and you deposit that amount into Compound. Because users can utilize a fund even though they are “locked,” you use that 500 DAI through the “Flash Loan” feature in InstaDapp to get 1000 USDT by borrowing from Compound. Then convert the 1000 USDT to an estimated 1000 DAI and place back the 1000 DAI into Compound as a lender.
Since you owe 500 DAI and you are lending 500 DAI. This makes it very possible for you to get an APY that can easily surpass 100%, added with the interest rate you pay for borrowing 1000 USDT.
However, profitability is determined by the growth and activeness of the platform and the appreciation of the given asset.
For instance, the stablecoin DAI can reduce in price at any given time, affecting an asset terribly. Normally, this occurs due to fluctuation in the other markets, and traders tend to use stablecoins for pegging their fiat currencies.
Compound Finance vs. Marker DAO
Until just recently, when Compound came into the picture, MarkerDAO was the most known Ethereum-based DeFi project.
MarkerDAO, like Compound, permits users to lend and borrow crypto using BAT, wBTC, or Ethereum. Added to that fact, one can borrow another ERC-20 stablecoin known as DAI.
DAI is pegged as well to the US Dollar. It differentiates from USDC and USDT in that they are backed up by centralized assets, but DAI is decentralized and it’s a cryptocurrency.
Similar to Compound, a borrower cannot borrow 100% of the Ethereum collateral amount he/she put down in DAI, only up to 66.6% of the USD value.
So to say, if one deposits $1000 equivalent of Ethereum, the person can withdraw 666 DAI for a loan not dissimilar to Compound, a user can borrow only DAI asset, and the reserve factor is fixed.
Both platforms utilize yield farming, and interestingly, users borrow from MarkerDAO to invest or lend in Compound—because, in Compound, users stand a higher chance of profitability. Amongst the numerous differences between the two most popular DeFi protocols, the most outlined differences hold as:
- Compound protocol reward users more incentives, added to the interest rates to participate in it.
- MarkerDAO has the sole goal of providing support to the DAI stablecoin.
Compound also supports lending and borrowing more assets, whereas, in MarkerDAO, it’s only one. This grants Compound more advantage when it comes to the yielding factor—which is the basic pushing force of these DeFi protocols.
Additionally, Compound is more user-friendly than MarkerDAO.
Where and How to Get COMP Cryptocurrency
Currently, there exists a number of exchanges where one can obtain this token. Let us outline a few;
Binance— This is the most preferred in Canada, Australia, Singapore, and most of the world, excluding the USA. US residents are restrained from getting a vast majority of tokens on Binance.
Kraken—This is the best alternative to those in the US.
Coinbase Pro and Poloniex.
So far, the best recommendation to store any of your cryptocurrencies and, of course, your COMP token will be an offline hardware wallet.
The Compound Roadmap
According to the CEO of Compound Labs Inc., Robert Leshner, and I quote from a 2019 post from Medium, “Compound was designed as an experiment”.
So, to say, Compound doesn’t have a roadmap. Notwithstanding, this Compound review highlights 3 goals that the project hoped to accomplish; becoming a DAO, providing access for various other assets, and enabling these assets to have their own collateral factors.
In succeeding months, Compound published more updates about the development process to Medium, and one of its recent posts outlining that Compound had accomplished these goals. The feat made Compound one of the very few cryptocurrencies which had completed their projects.
In later times, the Compound community will be the determiners of the Compound protocol. Predicated upon publicly seen control proposals within Compound, most of which seem to be on modifying collateral factors and reserve factors for the supported assets.
Concisely, these reserve factors are a little part of the interest rates that have been paid back from borrowers upon the loans they took.
They are called liquidity cushions and are utilized in times of low liquidity. In summary, this reserve factor is only a percentage of collaterals that can be borrowed.