What is Compound Finance and How Does It Work?

What is Compound Finance and How Does It Work?

The landscape of #decentralized finance is a diverse arena of innovative #defi protocols and Compound Finance is one of them. It is one of the earliest and most used DeFi protocols that has gained significant traction in the past years. In this blog post, we will break down what Compound Finance is, how it works and what benefits it brings to the ever-evolving world of DeFi ecosystem.

Compound Finance is founded by Robert Leshner and Geoffrey Hayes, who both are alumnus of the University of #pennsylvania. This duo also co-founded Safe Shepherd, an identity protection service provider, and were the heads of the firm before selling it in 2015.

As founders, both currently hold executive positions at Compound Labs, the development entity behind Compound Finance where Leshner currently serves as CEO and Hayes as CTO. Compound Labs manages the Compound ecosystem, including Compound Finance and Treasury – a platform that helps traditional financial technology and institutions access DeFi interest rates.

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What is Compound Finance?

Compound Finance is a DeFi lending protocol allowing individuals to lend or borrow different digital assets. It follows the approach of ‘trustles’ in a permissionless environment where no central authority evokes between users and funds. One of the core components of Compound is smart contracts which facilitates automated executions while transfering crypto assets back and forth between users and the protocol. Originally deployed on #ethereum, Compound Finance is now available on a number of blockchains including #arbitrum, #optimism, #polygon, and others.

In order to borrow assets from Compound, users would first need to supply collateral in supported crypto assets. The amount of assets a user can borrow vary on the collateral supplied and its market demand. One of the key benefits of Compound Finance is its greater transparency and security. As the protocol is deployed on #blockchain, all transactions and crypto assets available within the protocol can be seen by anyone. Moreover, the use of smart contracts eliminates the need for a guarantor and the code ultimately governs executions in a fool-proof manner.

According to data from #defillama, Compound Finance currently has a TVL of $2.53 billion across its all three variants which peaked to over $12 billion in November 2022. The borrowing and lending activity increases on DeFi protocols like Compound when the crypto market goes through a bullish phase.

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How Does Compound Finance Work?

The primary functionality of Compound Finance is enabling decentralized lending and borrowing using its liquidity markets. Lenders can supply assets to these markets and earn interest on it which is collected from the asset’s utility. Likewise, borrowers are required to pay interest to the protocol while borrowing against their collateral. Compound Finance has three variants (v1, v2 and v3) as of now which all offers different features, functionalities and support for assets.

Lending Crypto Assets

When users lend their assets to Compound, it is added to the protocol’s liquidity pool. In exchange, lenders will receive synthetic cTokens – representing their collateral – and earn interest whenever the supplied assets are utilized from the liquidity pool. Lenders could also borrow other assets on the collateral factor of up to 85%, which depends on the supplied asset’s utility and liquidity.

Borrowing Crypto Assets

To borrow assets from Compound, users first need to add collateral. They can borrow against their collateral while paying interest on their borrowing amount. However, the borrower must maintain their collateral as they can get liquidated if liquidation factors are met.

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COMP Token

COMP is the native cryptocurrency token for Compound Finance. It is rewarded to users who provide liquidity or borrow assets. The primary use of COMP is to govern the protocol where its holders can propose changes and vote on them. The governing members play a significant role in deciding the future of the Compound by adding or removing support for assets and managing revenues. COMP is deployed on Ethereum as an ERC-20 token and it is distributed every 15 seconds (Ethereum mining period) to eligible users.

Benefits of Compound Finance

Compound stands out as one of the most popular protocols in the landscape of decentralized finance (DeFi). Below are some benefits of Compound Finance:

Wide Range of Assets

Compound offers a wide range of assets within its liquidity pools for borrowing and lending. Users can benefit by providing liquidity or borrowing all those assets within minutes. It currently offers numerous cryptocurrency including #eth, #wbtc, #dai, and others.

Decentralized & permissionless

The decentralized and permissionless nature of Compound Finance makes it an ideal financing platform among crypto #traders and #investors. Users can borrow or lend whatever amount they want with no minimum or maximum requirements. This inclusivity enables broader audience to participate in DeFi.

Secure
Compound Finance is one of the most secure DeFi protocols with multiple security audits from reputable firms like Trail of Bits and Open Zeppelin. It has also maintained a clean slate with no major security breaches while being recognized as one of most popular places to borrow crypto assets.

Conclusion

As being one of the leading DeFi protocols, Compound offers a simple and user-friendly platform for cryptocurrency investors who want to seek additional benefits on their investments. Not only providing the opportunity to earn a return on investment, Compound also put forward a substantial finance ecosystem which is more efficient and greater than typical financial models. It also has a strong user base across the whole DeFi ecosystem.

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