A type of decentralized finance (DeFi) that allows investors to lend their crypto tokens in return for regular interest payments, the crypto lending space comprises both centralized and decentralized crypto entities that manage the entire process on behalf of their investors.
Offering high annual percentage yields (APY) to investors from whom the tokens have been borrowed, these lending platforms further lend the same assets in the form of collateralized crypto loans to borrowers.
However, despite providing businesses with easy access to capital and promising high yields for investors, the crypto lending space finds itself entwined in liquidity issues stemming from their unregulated and overleveraged lending practices.
As a result, crypto investors have either lost their tokens in debacles such as the Celsius Network meltdown or are gripped with fear that they may be unable to withdraw their crypto staked with distressed crypto lending platforms.
Major problems afflicting the crypto lending space
With major cryptocurrencies correcting by over 70% from levels last seen in November 2021, the crypto lending industry has been mired in a spiraling credit crisis, exaggerated by the crash of the Terra stablecoin in May 2022. The ensuing liquidity crisis has already consumed leading crypto lenders and hedge funds such as Celsius Networks, Vauld, Three Arrows Capital (3AC), Voyager Digital, and Babel Finance, further exaggerated by overleveraged trading and suspect business practices.
Consequently, the crypto lending space has been clouded with severe trust issues, with more lending platforms seeking fund infusions to tide over the current bear market.
As a niche market with limited offerings, investors or crypto firms often employ borrowed capital to indulge in speculation, hedging, or working capital.
Any over-exposure on the part of the borrower could put the lender at an immense risk of marking down the lent amount, leading to liquidity concerns in case a majority of the investors proceed to withdraw their deposited tokens. Making matters worse is the opaque nature in which most crypto lenders function, often using tokens staked by investors to pursue high-risk trades, all in the hope of turning a larger profit.
As in the case of Celsius Networks, many lenders continue to be at risk of becoming insolvent if cryptocurrency prices dip further, potentially setting off another domino effect.
What are the possible solutions to these overriding concerns?
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