Today, cryptocurrencies are used in a wide range of ways, from trading to yield farming. Cryptocurrency-backed loans are gaining popularity as they have multiple advantages over conventional lending. Discover how these trendy systems work in 2021.
The key similarity between ordinary loans and crypto loans is that both types let people borrow and lend money. On centralized exchanges, crypto lending also involves collateral. If you default on your loan, it is liquidated. Everything else is different.
Secured Crypto Loans
The basic principles are similar to a mortgage. You pledge your assets to borrow funds and pay the debt overtime. Such services are available on crypto exchanges and crypto lending platforms.
The borrower retains ownership of the coins they have pledged, but still relinquishes some rights. For example, they may not trade or use the assets for transactions. Cryptocurrencies are also volatile, and if the value of the collateral nosedives, you may end up owing much more than you borrowed.
Advantages of Crypto Lending
Holders of cryptocurrency who do not want to sell their assets in the near future find loans attractive. Such systems have distinctions but make them more appealing than traditional lending, such as the following.
Low-interest rates: you may find a loan with an interest rate under 10%, which is cheaper than credit cards or personal loans.
Asset value determines loan amount: different platforms have different conditions, but you may borrow from 50% to 90% of your portfolio value on average.
Different loan currencies: borrowers may choose between fiat currency (US dollars) and cryptocurrencies.
Absence of credit checks, which makes loans accessible for individuals with bad or non-existent credit history.
Quick processing: borrowers receive the loan amount in a few hours.
The system is also beneficial for lenders, as they may earn interest on their coins. Users who provide digital assets get a high APY. Sometimes, it reaches 10%, which is 10 times higher than on a bank savings account.
A Few Caveats
Using your crypto assets to secure a loan gives benefits, but there are still downsides to consider. The size of collateral may change as the value of the cryptocurrency is volatile. For example, the initial LTV ratio of 50% will require that you deposit $10,000 worth of cryptocurrency to borrow $20,000. In the future, if your assets lose value, and the ratio rises too high (to 70% on some platforms), the intermediary will initiate a margin call. This means you will have to provide more collateral to maintain the loan.
To Sum up
Crypto loans have many advantages over conventional forms of lending, such as mortgages or personal loans. They are easier to get, as no credit checks are used and all data is processed online quickly. At the same time, volatility makes the required size of collateral changeable.
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