Compound Finance is a DeFi-based protocol built on the Ethereum blockchain that functions like a decentralized bank. It allows users to lend and borrow crypto, as well as earn interest on the supplied funds, but also to have governance in it.
Founders Robert Leshner and Geoffrey Hayes, at Compound Labs, initially created and owned Compound. However, their idea for it was to give ownership to its users, making it decentralized, granting participants COMP tokens used for voting on upgrades, risk parameters and policy changes.
Compound Finance is built on the Ethereum blockchain. It is an ERC-20 asset — a decentralized protocol that allows users to borrow and lend crypto assets using a collateral-based borrowing system without third-party involvement.
The loan system works on blockchain technology called smart contracts, like NFTs. However, Compound Finance’s main use is to manage transactions.
Crypto investors can also earn interest by supplying assets to the Compound protocol. For instance, a trader can decide to supply 1000 units of DAI (a stablecoin worth around $1), and in return, the investor will receive cDAI tokens that guarantee the deposit plus interest. cTokens, like cDAI, can be redeemed at any time.
In some markets, users also accrue COMP tokens — the native governance token of the Compound protocol. The number of COMP tokens earned depends on the asset supplied, how long it’s held and the current distribution rules.(1) Holding COMP gives users voting power to propose or vote on changes to the protocol, making Compound a community-governed platform.
Compound was designed to act as a decentralized crypto bank. The goal is to connect lenders and borrowers with the shared liquidity pool that is secured and expedited by the automated smart contracts.
Lenders supply the platform by adding their funds to the shared pool, earning interest based on the amount of the contribution. On the other hand, the borrowers take the cryptocurrencies from that same pool and pay back with interest.
To ensure that the Compound protocol is running smoothly and safely, a system is put in place known as over-collateralization, meaning the borrower must provide collateral worth more than the amount being borrowed.
Smart contracts allow Compound to run effortlessly by adjusting the interest rates automatically. By accounting for the amount of supply and demand, smart contracts will make the prices higher or lower. For example, if a particular shared liquidity pool is running low on assets, then the interest rate will be high. On the other hand, if the number of assets is excessive, then the smart contract will lower the prices to promote borrowing assets.
The core principle of Compound Finance that makes it appealing to its users is COMP tokens and the active call for participation in a self-correcting system. The ability and power to debate, vote and propose changes, such as integrations, security updates and incentives, to the protocol is a complete innovation when compared to the traditional banking loaning system, where users have little to no voice.
Every COMP token is one vote. The number of COMP tokens determines how strongly a participant can argue their case in a particular market. Users who interact with Compound the most earn more COMP tokens and rightfully gain more voting power since the users are the ones most invested in how the protocol runs.
COMP tokens are distributed automatically every 12 to 15 seconds, or each Ethereum block, ensuring real-time updates to voting power to those who lend or borrow the most.(2) COMP tokens distribution depends on:
Apart from the previously discussed lending and borrowing of crypto coins, as well as profiting from interest rates, Compound can be used to evolve the protocol itself.
To propose a change on Compound, the user must have at least 100 COMP points. That amount is categorized as the autonomous proposal. For it to become a governance proposal, it requires 25000 COMP points to be delegated from others for the proposal to become official. The time window for the proposal to become official is two days, which is followed by a three-day voting period.
Users can exchange one supported cryptocurrency for another directly within Compound’s protocol. This enables efficient asset management without leaving the platform.
Developers can embed Compound’s lending and borrowing functionalities into decentralized applications. They can also create custom tools that interact with Compound’s smart contracts for enhanced DeFi services.
To answer the question of how to connect to Compound Finance, just follow these steps:
Compound Finance comes with several benefits to consider.
Compound Finance does not come without risks:
Users should consider the risk of market volatility and fluctuating interest rates the most, as these can have the most detrimental effects. For instance, if a Compound participant supplies the shared pool with bitcoin as collateral and its price starts falling rapidly due to market swings, the collateral value may drop below the required threshold, which will trigger an unfavourable liquidation.
Similarly, Compound’s interest rates adjust based on real-time supply and demand. When borrowing demand surges for an asset such as DAI, interest rates can spike sharply, increasing borrowing costs and potentially reducing yields for lenders, as explained in the protocol’s interest rate model.
Use the table below to compare exchanges that sell the COMP token. Select the Go to Site button for more information about a particular provider.
Compound Finance is a big milestone in decentralized finance. Now, people can loan and lend funds without third parties using only stablecoins. The community is driven to evolve the protocol as the users who are voting for changes stand to benefit from them the most.
If investing in Compound suits your financial goals, explore top crypto wallets to get started.
Yes, users of Compound Finance can earn compound interest when they supply the assets to the shared liquidity pool. Compound interest rates on crypto are much higher than at traditional banks.
Compound crypto can be a good investment depending on your investment goals. It has self-governing principles and a strong community determined to evolve the protocol even further. However, like all investments, it comes with risks.
Whether products shown are available to you is subject to individual provider sole approval and discretion in accordance with the eligibility criteria and T&Cs on the provider website.
Are you visiting from outside the US?
DAOs are already replacing traditional business models and revolutionizing the world of investing. Find out how they work and how to invest.
Lido’s liquid staking allows investors holding LUNA and less than 32 ETH to reap the rewards of DeFi staking.
Find out how a Web3 wallet can allow you to access the world of DeFi, plus discover which wallets we recommend.
DeFi tokens compose a prominent sector in the cryptocurrency markets. Learn the basics of these tokens here.
Learn how to save on Ethereum gas fees by using the Loopring decentralized exchange, and earn money as a liquidity provider.
Read our step-by-step guide on the MakerDAO platform. Find out how it works and how to grant loans using cryptocurrency holdings.
Learn how to manage DeFi investments with Zapper.fi. We present the pros, cons and risks associated with this liquidity management tool.
Learn how to trade or earn money by providing liquidity on Uniswap, Ethereum’s biggest decentralized exchange.
Learn how to use Curve.fi for trading, providing liquidity and earning interest with this simple guide.
