Yield farming, which is also known as liquidity mining, is a way through which cryptocurrency holders can generate rewards by locking up or staking cryptocurrencies in yield farms.
To get rewards, cryptocurrency holders add funds to liquidity pools making them liquidity providers and in return earn rewards from the fees generated by the Defi platform operating the liquidity pool
Liquidity pools are simply smart contracts where Defi platform users deposit their cryptocurrency funds to earn rewards. The smart contracts specify the terms through which the user shall get his/her rewards.
Once the terms or conditions are satisfied, the user automatically receives the rewards which may be in form of a single or multiple tokens. These tokens that are received as a reward can then be used for other purposes or reinvested into the same pool or other pools to earn more rewards.
Most yield farms are based on Ethereum blockchain and thus use ERC-20 tokens. Therefore, the rewards are also in form ERC-tokens.
How yield farming works
As described in the section above, yield farming involves a liquidity pool and liquidity providers who are cryptocurrency holders using a Defi platform operating a liquidity pool. The liquidity providers, who are also referred to as yield farmers or liquidity miners, fund the liquidity pool by depositing cryptocurrency funds into it.
The liquidity pool then acts as a market place where other users interested in the cryptocurrency funds in the liquidity pool can borrow or swap tokens. And as these other users lend or swap tokens, the Defi platform charges some fees.
The fees charged by the Defi platform is then shared among the liquidity providers in the ratio of their contribution towards the liquidity pool. Therefore, the more a liquidity provider deposits into the liquidity pool, the more the rewards they receive.
The algorithm of distributing the funds earned through the fees is put into a smart contract that automatically executes it once the conditions are met.
In most cases, the rewards are in form of stable coins that are pegged on the USD dollar. The most common stable coins that are used in yield farming include USDT and DAI. Some Defi protocols however also offer a wide selection of tokens including other ERC-tokens like ETH.
Common Yield Farming protocols
To become a yield farmer or liquidity miner, you will require to join a yield farm, which are Defi platforms/protocols that have liquidity pools where you can deposit or stake your cryptocurrencies in return for rewards after a while.
With the rapid growth of the Defi ecosystem, very many yield farms with different features have been developed to meet the demand of cryptocurrency holders.
Some of the best yield farming platforms and protocols include:
- Curve Finance
KingSwap, Uniswap, Balancer and Curve Finance are all decentralized exchange with liquidity pools where users (liquidity providers) can perform for trustless token swaps.
However, Kingswap which is the newest of them all, have added features geared towards providing user-friendly real-time benefits in terms of contributor rewards and price curves. Also, besides offering off-ramp fiat currency conversion solutions, it registered in Singapore to allow greater convenience for users when doing fiat currency to cryptocurrency conversion and vice versa.