Financial NFTs Could Be the Ultimate Path to DeFi Mass Adoption


By Tony Y. Chan, CEO of Pledge Finance

The monumental success of DeFi is no secret now. Daily headlines, crypto price charts and social media are filled with stories about how this nascent industry is shaking the very foundations of the global financial system. Today, DeFi is worth over $200 billion and serves over four million people on Ethereum alone. Financial experts across the world have lauded the innovations that emerged from this space and some of them believe that this industry could balloon to over $800 billion soon. 

While these numbers seem staggering and the growth of DeFi inevitable, beneath the surface the industry lacks some universally appealing factors that define the success of the traditional finance (TradFi) industry. For instance, its ability to offer fixed interest rates to investors and lenders. Retail investors have long favored fixed interest rates that guarantee a steady growth in their wealth over floating interest rates. But in DeFi, fixed rates are almost non-existent and this deters non-traders and average investors from the industry. 

Apart from this, DeFi also has long-standing problems with rightfully incentivizing liquidity providers (LPs) and distributing liquidity. On popular liquidity mining platforms, the annual percentage yields decrease as users increase. This leads to liquidity build-up without substantial rewards for LPs. And then, there’s also the issue with cyber-security. Without proper cover protocols to compensate for cyber-attacks and digital asset thefts, DeFi cannot flourish in the long run. Investors need to be assured their assets are safe, and in its present state, DeFi does not provide this assurance. 

However, the emerging DeFi trend of financial NFTs could be the most viable solution to DeFi’s many problems.  

Redefining DeFi with tokenized financial products

Up until recently, NFTs were only spoken of in the context of art and collectibles. So, the trend of financial NFTs is a huge step forward for the NFT market and probably one of its first real-world use-cases. Financial NFTs at their core are tokenized financial products that hold ERC-721 and ERC-3525 token standards. ERC-3525 represents semi-fungible tokens and when used in DeFi protocols, it can implement complex functionalities that cannot typically be carried out by ERC-20 tokens. 

This paves the way for a new wave of upgraded and future-proof financial products that can redefine the course of DeFi. For instance, when we consider the floating interest rate problem in DeFi, Financial NFTs provide a way for loans to be tokenized as NFTs. This allows the holder of the NFT to receive a fixed interest rate throughout the loan period. But the best part is that, as an NFT, this tokenized loan can be traded on NFT marketplaces, making it easy for holders to swap loans and interest rates and switch from fixed to floating interest rates at will.

Then, the use of financial NFTs also helps offer unique liquidity provider positions to LPs in DeFi protocols. These positions can be offered in terms of the amount of liquidity provided or the stage at which these LPs joined the protocol. This will help LPs retain their original positions even when new investors arrive on the scene and earn the highest possible yields.

Tokenized financial products like securities or stocks can be used as collateral in DeFi protocols to obtain loans. Given that these products are substantially more stable when compared to digital assets, the problem of over-collateralization of loans in DeFi could easily be averted. Furthermore, DeFi’s cover protocols could use financial NFTs as an insurance token to assure and provide loss coverage for users. 

Now, when we look at the whole picture, it becomes quite clear how financial NFTs can provide an easy solution to DeFi’s long-standing problems. Tokenizing financial products allows for their smooth movement within the DeFi ecosystem and can also become the key to interoperability in the industry. 

Bringing universal appeal to DeFi 

Ever since its inception, DeFi was touted to be the world’s way forward in finance. The opportunities and the innovations emerging from this space have opened up new dimensions in the global financial system and created the possibility for banking the unbanked. Now, with the integration of NFTs into DeFi, the industry has the opportunity to become universally appealing. These financial NFTs help us bring some of the key factors of TradFi and seamlessly integrate them into DeFi, paving the path for average investors and non-traders to enter space and build towards mass adoption. 

About the author:

Tony Y. Chan

Tony Y. Chan, CEO of Pledge Finance, is a serial entrepreneur and angel investor. He wrote part of Windows 95, and got his MSCS at Stanford University and BS EECS at UC Berkeley.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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