Why European CFOs Should Learn More About DeFi

The roles undertaken by a chief financial officer involve many moving parts; one of these is the investment of the company's capital into portfolios that offer maximum return. They have a potentially powerful new tool that stands to significantly increase their annual percentage yields.

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The roles undertaken by a Chief Financial Officer (CFO) involve many moving parts; one of these is the investment of the company’s capital into portfolios that offer maximum return. This is no easy task and can take a good deal of expertise to realize even modest returns — not to mention staying away from investments that lose value.

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There’s no magic money-making strategy that always works and managing a solid portfolio will always be complicated, but now CFOs have a potentially powerful new tool that stands to significantly increase their annual percentage yields (APY). That tool is Decentralized Finance, or DeFi for short. DeFi protocols are built out of blockchain technology, which was first used and popularized by Bitcoin. Bitcoin, however, simply transfers value across the network, but some of the blockchains that have sprung up in its wake, such as Ethereum, Binance Smart Chain and Solana, can do so much more.

These networks implement “smart contracts,” basically computer programs that mean the assets on the blockchain can be handled programmatically. This paved the way for the first decentralized applications (Dapps) as well as decentralized exchanges (DEXes), which is what has now given birth to the quickly expanding DeFi ecosystem.

Why should CFOs care?

What makes all of this so potentially lucrative for company portfolios is the new financial options available for investing, lending, general asset management and more. In traditional finance there are options for all these same things, but managing the products is always handled by a financial company, which is run by people, and those people need to get paid. There are also a lot of competition for lending in the traditional markets. This is understandable, but it means many investment or lending contracts can only offer around 1 percent APY or less. 

By comparison, DeFi platforms can provide the exact same types of services, but here every part is run by efficient code and hence there is literally no human taking a cut. Small fees are still applied to work as financial incentives for liquidity providers, but they are miniscule compared to legacy operations. And most regulated financial can’t yet lend in DeFi, and so there is not as much capital available as in traditional markets. Because of this, it is not uncommon to see returns in the 2-percent to 20-percent range on many DeFi products. Even higher yields are possible, but they tend to come with increased risk as well.

Speaking of risk, obviously at this point many readers may feel this all sounds too good to be true. It isn’t, but that doesn’t mean there aren’t some notable considerations that must be taken into account before jumping into the DeFi world. For one, we’ll start with the most common issue cited for digital assets: volatility. Cryptocurrencies like Bitcoin and many others are known for their wild price fluctuations. While this can lead to impressive gains, it can also do the opposite. Even assuming that, on average, prices keep climbing, it is more than a little daunting for a company to have a portfolio that could change in value by 50 percent or more with no certainty as to when or which direction. Fortunately there is an answer here as well, in the form of what are known as “Stablecoins."

Stablecoins use the same underlying technology as the other cryptos but to create assets that are “pegged” to a value, such as the U.S. Dollar. This can be done by holding the actual pegged asset as collateral, or by using different forms of collateral and smart contracts to maintain the value of each unit. This means that $100,000 worth of stablecoins will still be worth $100,000 tomorrow, next month, and next year. This forms a basis for stability, but then these assets can be lent out to DeFi platforms in exchange for a passive income, not unlike traditional lending but as mentioned with much higher returns. 

The other major risks that come along with DeFi are hacks and malicious services. If a decentralized platform is properly coded and set up, there can actually be very, very low risk of it being compromised due to the security that comes with blockchain technology. However, seeing as these are still built on computerized systems, the code will do whatever its creator told it to. This means that a seemingly benign service could have code hidden in it to steal users' funds under certain conditions, or could simply have a flaw that allows it to be exploited.

The best defense against all of this is patience and research. Before giving any platform money, a good deal of homework should be done to see who is behind the project, how it claims to work, has the code been independently audited, what is their track record and what is the community saying? All of these questions need to have pretty satisfying answers, but when they do, there’s a good chance that this opportunity is legitimate.

Additional risk management strategies.

In addition, there are actually even more tools that operate to make accessing DeFi both simpler and safer, all while maximizing returns. For example, platforms like Compound’s Treasury or OSOM’s DeFi Earn basically step in and manage funds on behalf of their users, leveraging both the wisdom of experts as well as proven systems for generating returns. Furthermore, because these products are run by professionals, users can trust that they are only engaging with the most reputable platforms available.

On top of this, there are even decentralized insurance packages that have been created to protect clients in the event that a hack occurs or an asset loses its peg. Purchasing insurance will of course cut into profits slightly, but here again thanks to the low fees and high returns possible with DeFi, this can still lead to portfolios that perform better than with legacy investments and are just as secure.

Ultimately, the potential of DeFi products should be sufficient to draw the attention of most CFOs. How each organization then wants to get involved is up to them, but as more and more businesses begin to notice, it is likely we will see DeFi investing become notably more common with even the biggest companies. This could give a competitive edge for early movers as it stands to bring in a much higher degree of capital for future company growth, and those that drag their feet just may find themselves playing catch-up in five or 10 years.