Did you know that you could let your crypto work for you and earn even more crypto?
Innovative crypto projects brought new possibilities to investors which are sometimes more attractive than traditional finance. With those possibilities, there is a strong argument to stop holding crypto, and start putting it to work to earn passive income with your crypto.
In this article, we will go through 3 different methods for earning passive income with your crypto and their potential risks.
I also made an animated video on this topic that you can watch here:
Table of Contents
Yield Farming
Yield farming means putting your crypto to work and generating rewards for doing so. In practice, you put your coins in a DeFi protocol from which other users can borrow crypto. For providing that service you are rewarded with interest. Interest is calculated in APY which stands for annual percentage yield and that is your rate of return for your crypto.
You probably wonder how much APY can be earned. Just for the comparison, if you put your money in a savings account you will earn somewhere around 0.5% APY. On AAVE, open-source DeFi protocol, you can earn up to 12% on your crypto coins and 2-3% on stablecoins. I wrote more about it in my yield farming guide for beginners.
Staking
The second method you can use is staking. Staking is the process of becoming a validator on a blockchain. You can only stake coins that use the Proof of Stake consensus mechanism. Every new transaction needs to be validated before being added to the blockchain. When you stake your crypto, you are actually validating transactions, and by doing so, you are securing the blockchain network. For that, you receive a reward in the form of a new coin.
You can easily stake your coins on many popular crypto exchanges such as Coinbase, Binance, or Crypto.com. I made a step-by-step guide on how to earn passive income on your crypto with Crypto.com, which you can watch below.
But you should be very careful when choosing which cryptocurrency you want to stake because it can easily drop in price and wipe off your staking gains.
Liquidity Providing
The last method I will go through is Liquidity providing. To understand this you will have to know what a liquidity pool is.
A liquidity pool is simply a collection of cryptocurrencies that are locked in a smart contract and secured by it.
Decentralized exchanges, such as Uniswap, use pools to create liquidity for some coins and earn on transaction fees. Investors swap coins from the liquidity pool and pay transaction fees for doing so. Those fees are then redistributed back to liquidity providers.
Potential Risks
Those three methods for earning cryptocurrencies unfortunately don’t come without risks.
Impermanent loss
The most common risk with liquidity providing is impermanent loss. Impermanent loss happens when one of the trading pairs increases or decreases in price. Because of an imbalance in the liquidity pool, one of the pairs is sold for a lower price and that results in missed gains.
Volatility
Your crypto can drop in price and if you need money in the short term you might need to sell it for a lower price than you actually bought. That’s why you should only invest the money that you won’t be needing in the near future and don’t expose yourself to a risk you can’t handle.
Rug pull
Another thing to consider is Rug pull which describes a scam project in which developers take investors’ money and leave them with empty pockets. That is why you should always do good research on the project before investing in it. If you want to learn how to do your own research, check this article.
