How is Yield Calculated in DeFi?
In the world of Ethereum DeFi (Decentralized Finance), calculating yield is an essential aspect for investors and liquidity providers. Here’s how yield is typically calculated:
1. Understanding Yield
Yield in DeFi primarily refers to the returns that investors earn on their assets. It can be generated through various mechanisms such as lending, staking, or liquidity provision.
2. Types of Yield
Yield can be divided into two main categories: interest earned from lending out assets, and trading fees earned when providing liquidity on decentralized exchanges.
3. Annual Percentage Yield (APY)
APY is commonly used to express yield in DeFi. It represents the total amount of interest earned on an investment over the course of a year, factoring in compound interest.
4. Calculating APY
To calculate APY, you can use the formula:
APY = (1 + r/n)^(n*t) - 1
Where r is the nominal interest rate, n is the number of compounding periods per year, and t is the number of years.
5. Risk Factors
It's important to note that yields in DeFi can be highly volatile and are subject to risks such as smart contract vulnerabilities, impermanent loss, and market fluctuations.
In summary, yield in Ethereum DeFi is calculated through several methods, primarily focusing on APY, while also considering associated risks.