Key Takeaways:
- Aave functions as a decentralised crypto lending platform.
- Users must provide collateral in the form of crypto assets to borrow.
- AAVE, the native token of Aave, can be staked to earn interest.
- Borrowers face the risk of collateral liquidation if its value depreciates beyond a certain threshold.
Introduction to Aave Protocol
A decentralised cryptocurrency platform, Aave offers users the opportunity to borrow and lend crypto through smart contracts. These contracts streamline the process by enforcing predefined rules governing fund distribution, collateral management, and fee assessments.
The platform specialises in overcollateralised loans, requiring users to deposit crypto assets worth more than the desired borrowing amount. This shields lenders from potential losses due to loan defaults and empowers the Aave protocol to liquidate collateral should its value significantly decline.
Read on for more details on how Aave works, lending and borrowing, flash loans, and the AAVE token.
How Aave Operates
Aave was first deployed on the Ethereum blockchain in January 2020, allowing lenders to earn interest paid by borrowers. Rather than directly matching lenders with borrowers, Aave pools deposited crypto assets into liquidity pools, from which the assets are lent out to borrowers. Aave now operates on multiple blockchains, including Avalanche, Optimism, Polygon, and Arbitrum.
All Aave loans are overcollateralised, ensuring that collateral value exceeds the borrowed amount. Borrowers have no fixed repayment timeline but must repay the loan in the same cryptocurrency borrowed, plus interest.
Smart contracts govern the protocol and automate, for example, loan terms calculation, collateral collection, and cryptocurrency distribution. These contracts eliminate the need for intermediary intervention, ensuring a decentralised lending environment.
Lending on Aave
For lenders, Aave offers the opportunity to deposit crypto assets into liquidity pools, where they may earn interest paid by borrowers. Rather than directly matching lenders with borrowers, Aave pools deposited crypto assets, which are then lent out to borrowers.
To lend crypto on Aave, simply connect your digital wallets to the platform and select from the list of supported assets for deposit. Deposits accrue interest, paid out in the same asset.
Supported cryptocurrencies on the Aave exchange include Ether (ETH), Dai (DAI), Aave (AAVE), USD Coin (USDC), and many more, depending on the blockchain network you choose. Deposited tokens contribute to liquidity pools, with interest paid by borrowers distributed amongst depositors.
As a decentralised protocol, Aave transactions occur directly on the blockchain, necessitating network fees (gas fees) for depositing or withdrawing funds. Lenders have the flexibility to withdraw funds and earned interest at any time.
Here’s an overview of supported tokens on Aave for the different blockchain platforms the protocol operates on.
Borrowing on Aave
To borrow cryptocurrency on Aave, users must first deposit collateral onto the platform. Once deposited, collateral earns interest. After depositing funds, users select from supported crypto assets for borrowing, with Aave dynamically calculating borrowing limits based on various factors like asset value and volatility. Borrowed cryptocurrency is then deposited into the user’s connected wallet.
Users can deposit cryptocurrency as collateral and borrow other cryptocurrencies, with the borrowing amount capped at a certain percentage of the collateral value, known as the Loan to Value (LTV) ratio. For example, if a collateral has a Loan to Value of 75%, for every 1 ETH worth of collateral the user will be able to borrow 0.75 ETH worth of principal currency.
Aave offers loans with a liquidation threshold, which liquidates your position if the value of your collateral drops too much. For example, if a collateral has a liquidation threshold of 80%, it means that the loan will be liquidated when the debt value is worth 80% of the collateral value.
Flash Loans
Aave also offers Flash Loans, enabling borrowing and repayment within the same blockchain block. These transactions incur a 0.09% fee paid by the borrower.
Flash loans are a special type of loan that does not require users to supply collateral, as long as the loan amount is repaid before the end of the transaction (also known as One Block Borrows). These loans are designed to capitalise on arbitrage opportunities in the crypto market.
Liquidation
Should collateral value fall below a specified LTV ratio, Aave may initiate liquidation, selling a portion of the collateral to repay the loan and restore LTV compliance. Liquidations are executed by users known as ‘liquidators’, who receive a bonus for their efforts.
The liquidation penalty (bonus for liquidators) depends on the collateral asset, and you can refer to their risk parameters for more details.
The AAVE Token
The AAVE token is the native cryptocurrency of the Aave platform. It serves multiple purposes within the Aave ecosystem.
Governance: AAVE token holders have voting rights to propose and vote on changes to the protocol. This includes decisions related to protocol upgrades, fee adjustments, and adding new features.
Staking: AAVE tokens can be staked within the Aave platform. Staking involves locking up AAVE tokens to support the security and operation of the protocol. In return, stakers may receive rewards, such as additional AAVE tokens or a share of the platform’s fees.
Fee Reduction: Users who stake AAVE receive a discount on borrowing fees. This incentivises users to acquire and hold AAVE tokens, contributing to the platform’s ecosystem.
Incentives: Aave may distribute AAVE tokens as incentives to users, developers, and liquidity providers to encourage participation and growth within the platform.
Overall, the AAVE token plays a crucial role in governing the Aave protocol, incentivising participation, and providing economic value to its holders.
You can find more details about AAVE’s tokenomics on the protocol’s GitHub.
Are There Any Risks Associated With Aave?
Aave, like any lending platform, carries inherent risks:
- Liquidation risk: Volatile collateral assets may undergo liquidation if their value significantly depreciates.
- Lack of insurance: As with other decentralised crypto platforms, Aave does not provide insurance, which can leave user funds unprotected in certain scenarios.
- Crypto volatility: Using crypto assets as collateral exposes users to market fluctuations, which can potentially lead to losses.
- Liquidity risk: Users may face challenges withdrawing funds if liquidity drops.
How to Buy AAVE
Aave (AAVE) is listed in the Crypto.com App with a growing list of 250-plus supported cryptocurrencies and stablecoins, including Bitcoin (BTC), Ethereum (ETH), Polkadot (DOT), USD Coin (USDC), and Cronos (CRO).
Crypto.com App users can now buy AAVE with USD, EUR, GBP, and 20-plus other fiat currencies and spend it at over 80 million merchants globally using the Crypto.com Visa Card.
Alternatively, users can also buy Aave on the Crypto.com Exchange. To start buying AAVE today, download the Crypto.com App.
In Conclusion
Aave is a popular cryptocurrency lending platform in decentralised finance (DeFi), leveraging smart contracts for automated operations. With overcollateralised loans and Flash Loans, Aave offers a dynamic lending environment.
Supported cryptocurrencies can be borrowed against deposited collateral, and loans are processed instantly through smart contracts, with interest accruing until repayment. Aave’s security relies on Ethereum’s decentralised network and staked Aave tokens. Aave imposes fees for borrowing, Flash Loans, and network transactions.
To use Aave, access the web app, connect your digital wallet, and deposit crypto onto the platform. However, do keep in mind that crypto lending and borrowing does come with risks, so do your own research before jumping in.
Due Diligence and Do Your Own Research
All examples listed in this article are for informational purposes only. You should not construe any such information or other material as legal, tax, investment, financial, cybersecurity, or other advice. Nothing contained herein shall constitute a solicitation, recommendation, endorsement, or offer by Crypto.com to invest, buy, or sell any coins, tokens, or other crypto assets. Returns on the buying and selling of crypto assets may be subject to tax, including capital gains tax, in your jurisdiction. Any descriptions of Crypto.com products or features are merely for illustrative purposes and do not constitute an endorsement, invitation, or solicitation.
Past performance is not a guarantee or predictor of future performance. The value of crypto assets can increase or decrease, and you could lose all or a substantial amount of your purchase price. When assessing a crypto asset, it’s essential for you to do your research and due diligence to make the best possible judgement, as any purchases shall be your sole responsibility.
