Most investors don’t know that they can earn passive income with cryptocurrencies. They purchase Bitcoin, Ethereum, or a brand new altcoin and wait years for their assets to appreciate in value. They could have doubled their stack with minimal effort but chose to do nothing. Why not let money work for you?
Idle money is non-existent. Inflation forces people to convert their cash into an asset that appreciates. Some invest, but some believe it’s too risky. Plus, you can’t do anything with stocks other than sell them. Some buy illiquid assets like real estate and make passive income through renting.
Making money on top of existing assets is not part of crypto culture, which is sad because we have the best of both worlds: liquidity and decentralization. However, DeFi changed the game by making passive income easier and more profitable than ever, luring more investors into the fold.
In this article, I show you five ways to earn passive income with crypto. Although most methods require you to learn a lot of new things before getting started, you will need minimum effort to keep your revenue system alive.
Long before DeFi, investors relied on centralized lending protocols to create passive income. Lending returns average between 5% and 10%, and depending on the protocol, users can withdraw assets at any time or have to lock them for months. You can also choose between receiving yields via the protocol’s token or the loaned asset.
The assets you can loan and their APY rates are highly diverse. Altcoins provide higher rewards because they’re more volatile, while assets such as Bitcoin and Ethereum have the lowest yields. Investors often use lending protocols Celsius Network and Nexo, but exchanges such as FTX and Bitfinex also provide these services.
The problem with lending is that you can’t touch your assets until the lockup period ends. If the market plunges, you can’t sell and save losses. Or if the asset faces difficulties and loses value (e.g. network shutdown or security breach), lending also prevents you from selling. Another problem is that you can’t switch to a different asset until the lockup period ends.
Above is a chart of AXS, an asset with a 34% APY at Nexo. Despite its attractive yield, AXS is too volatile to be a healthy option. Maybe you’re earning hundreds of dollars a day, but you’re still risking half of your portfolio. The rewards do not offset the risks. Stablecoins protect against impermanent loss, though they do not accrue value over time.
Crypto lending represents the perfect option for investors who don’t like crypto volatility but don’t enjoy interest rates offered by banks either. These investors can exchange dollars for USD stablecoins and enjoy the best of both worlds: the dollar’s position as a global reserve currency and crypto’s lavish yields.
Where does the margin in leveraged trading come from? From other investors. Derivatives exchanges such as FTX, Binance, Bitfinex, and Kucoin offer lending in return for stable APR or APY yields.
Keep in mind that there’s a huge difference between APR and APY yields. APR is the annual yield you receive without any compounding. APY considers daily compounding as part of its calculated rate. This means that APR rates offer a better final yield as their rate doesn’t include the effects of auto compounding.
Before lending, check the terms and conditions that apply to each asset. Some exchanges enforce lockup periods while others don’t. Some charge withdrawal fees and some do not have insurance protocols that protect investors from liquidity issues.
Yield farming is a decentralized version of lending. Yield farming means providing liquidity to a decentralized exchange from an anonymous and non-custodial wallet. Centralized exchanges don’t offer the latter two factors, which is why DeFi became so attractive to crypto investors.
Providing liquidity to Binance requires multi-tier KYC and leaving the control of your assets to a centralized entity. You can issue a withdrawal request, but you can’t process it, you don’t have full control over your assets. You can lend, but the selection of assets is constrained by the exchange’s policy. Various other restrictions make lending on CEXs a limiting experience.
Don’t let decentralization fool you. Although it gives investors a false sense of control by promising personal asset management and interaction with autonomous smart contracts, DeFi is too riddled with issues to be the perfect utopia we imagine it to be. Exploits, bugs, scams, and rugpulls happen every day. You have ownership and control, but risks as well.
Yield farming is the most complex passive income strategy. The volatility is much higher, meaning that the risk of losing money via impermanent loss is also high. You also have to focus on risk management and decide between farming lower yields on stable ecosystems (e.g. Ethereum) or higher yields (AVAX, Solana, and BSC).
Note that liquidity pools for yield farming demand a 50/50 split of assets. If you wish to farm $1000 worth of ETH in an ETH-USDT pool, you must also provide $1000 in USDT. Yield farming also requires a permissionless wallet such as Metamask or Phantom.
In recent years, blockchain networks began switching to a Proof of Stake consensus mechanism to secure faster transaction throughput. Since miners no longer secure the network by validating transactions, PoS blockchains rely on users who stake assets. The logic is that malicious entities have a lower chance to perform a 51% attack the more assets a network secures.
The network rewards investors who lock assets, much like DEXs reward traders that provide liquidity. But to ensure staked assets can’t leave the network and impact its stability, they enforce a lockup period. Networks usually offer custom lockup periods and higher rewards to those that lock assets for longer periods.
Decentralized staking is only possible if you set up a validator machine that directly interacts with the network. But since validator machines are too complicated, the average user prefers staking on a CEX. However, you can always avoid the pain of creating a validator by using a permissionless staking protocol such as Rocket Pool.
Rebasing protocols are the latest passive income scheme in crypto. This trend, started by Ohm Protocol, works on the basis of game theory. The 3,3 model states that as long as all participants stake and grow the protocol’s treasury, they remain profitable. If everyone contributes, everyone wins.
Projects like Ohm, Time, and Sol Invictus reinvest the collateral from their treasury into other projects and passive income strategies. This bonus income is again reinvested into the protocol to reward users.
The problem with rebasing protocols is that they rely on momentum. Once whales stop staking and sell their assets, they cause havoc for other participants. Everyone suddenly loses. The treasury, which derives most of its value from the native token, plunges, and so does the token’s price.
Inflation is another major problem. The more investors stake, the higher the token’s supply becomes. And the higher the supply, the higher the selling pressure. Some claim that this makes rebasing protocols only worthwhile for early adopters and turns new investors into exit liquidity.
Rebasing protocols are for some a speedrun of 2008 due to the way they rise and crash. However, it’s unfair to say that developers aren’t working on creating real value for their users. These projects are experimenting with concepts such as hedge funds and revenue systems fueled by yield farming and staking strategies.
If you want to know more about making passive income in crypto, I recommend reading the following articles:
Marko is a crypto enthusiast who has been involved in the blockchain industry since 2018. When not charting, tweeting on CT, or researching Solana NFTs, he likes to read about psychology, InfoSec, and geopolitics.
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