I applaud CoinDesk for creating a taxonomy to measure the size and growth of the DeFi market. This is a much needed first step to clarify terms and measure market dynamics. The charts provided will assuredly be used by many DeFi participants. That said, I have two primary problems. First, I cringe at the fact CoinDesk has for some reason identified anonymity as a fundamental construct. It would be insane to invest in any business where the main participants remain anonymous. Consider all of the crime that is created by individuals pretending to be someone they aren’t and now let’s make those crimes even easier. This is a terrible idea.
Second, CoinDesk correctly states the critical role that smart contracts play in DeFi, but it doesn’t mention the fact that the technology is not sufficiently developed to address the needs of a reliable DeFi environment. Smart Contracts can’t be analyzed by the majority of consumers, so participation is a leap of faith that the terms are as represented somewhere else and that the contract does not have any bugs now or in the future when the environment changes. Externalities, such as those introduced by Oracles, are another poorly secured and controlled environmental factor, and smart contracts are typically tightly coupled to a specific blockchain and so if there is a blockchain failure the smart contract will fail. Consider the risk associated with the Ethereum 2.0 Merge taking place now. The Ethereum smart contract runtime environment operates on Ethereum. If the Ethereum 2.0 Merge goes poorly it is extremely likely the smart contracts will fail in unpredictable ways. If a smart contract is based on any real time events, such as ETH price, then it is possible critical buy/sell signals will not be acted on:
“Decentralized finance, also known as DeFi, enables and empowers individuals to take control over their finances. By replacing traditional institutions with trustless, transparent and immutable code in the form of smart contracts, people can effectively be their own bank.
DeFi is powered primarily by a range of decentralized applications (dapps), all of which are openly accessible to anyone using the blockchain technology. Most traditional financial services are available in DeFi form, with innovation shaping things in this space at a rapid pace. Examples of such services include decentralized exchanges (DEX); derivatives trading, borrowing and lending platforms; asset management platforms and others. As various heterogeneous chains become more and more interoperable and interconnected, DeFi will become even more accessible and ubiquitous.
The DACS Glossary defines DeFi sector as follows:
DeFi refers to projects that support financial products and services that are not facilitated or controlled by any central entity. These financial products and services are accessible without any barrier to entry or identification requirements. All DeFi tokens must be created on smart contract platforms and offer open-sourced liquidity with the ability for token holders to reserve governance rights.
Industry groups inside the DeFi sector
The digital assets that are assigned to industries in the DeFi sector can be consolidated into eight industry groups. Within the DeFi sector, the Exchanges industry group has the most assets, currently at 33. The market capitalization of this industry group adds up to 49.9% of the sector’s market capitalization, making it the biggest of the industry groups inside DeFi. The Exchanges industry group is extremely important due to its size and its ability to contain all decentralized platforms that enable peer-to-peer and on-chain trading of various digital assets.
The Decentralized Autonomous Organization (DAO) and Credit Platform industry groups represent 13.7% and 13.2% of the sector’s market capitalization, respectively. Both industry groups share approximately the same number of assets, at 16 and 17, respectively. DAO is an industry group with a wide range of services all centered around the dynamics of a governance token. These dynamics empower their owners with voting rights over the activities of the organization. The Credit Platform industry group is somewhat more concentrated, with fewer assets and slightly bigger in size. It includes open and trustless platforms for users to deposit digital assets as collateral and subsequently borrow against those assets.
The Derivatives group comprises 10.8% of the sector’s market capitalization. Derivatives includes tokens that support options, futures, perpetual swaps, margin trading and leverage. Derivatives can also include synthetic derivatives that tokenize real-world assets.
Yield, Atomic Swaps, Insurance and Asset Management make up the bottom 6.6%, 2.5%, 1.9% and 1.4%, respectively. They are defined as follows:
● Yield includes all DeFi vaults in which depositors can stake assets in a yield-bearing vault that aggregates a positive yield from various DeFi platforms and assets.
● Atomic Swaps are a form of peer-to-peer, cross-chain transfer. With the help of a trustless smart contract acting as intermediary, two parties on two different chains can exchange one digital asset for another.
● Insurance allows users to purchase insurance via a smart contract on digital asset-related risks.
● Asset Management consists of projects that allow any aspiring portfolio manager to create and trade a basket of digital assets that prospective investors can invest in by purchasing the tokens.”
Mercator Advisory Group has written a viewpoint that analyzes smart contracts and the issues that may happen if used to support common payment card scenarios.
Overview by Tim Sloane, VP, Payments Innovation at Mercator Advisory Group.
