Overview
Supplying tokens to decentralized finance (DeFi) protocols allows you to earn passive income on your digital assets. By transferring your tokens into a liquidity pool, you contribute to a system that enables overcollateralized borrowing. In return, your supplied tokens automatically accumulate interest based on current market rates.
This interest accrues dynamically. Your token balance increases linearly over time, reflecting the real-time supply rate. The entire process is managed by smart contracts, ensuring transparency and automation.
Interest rates are not fixed. They are determined primarily by the borrow utilization rate—the ratio of assets borrowed to the total supplied. Governance parameters, adjustable through community voting, also play a role. These settings influence collateral requirements and interest rates for both suppliers and borrowers.
Key on-chain data like token balances, oracle price feeds, and utilization ratios continuously update these rates. As liquidity is supplied, borrowed, repaid, or withdrawn, the system recalculates interest accordingly.
You can supply tokens directly through the protocol's smart contracts or via a user-friendly web interface. Below, we outline the general steps involved in this process.
How to Supply Tokens
Connect Your Wallet
Start by connecting your Ethereum wallet to the platform. Click the 'Connect Wallet' button and select your wallet provider from the list. Ensure the wallet holds the tokens you plan to supply.
Choose the Asset to Supply
After connecting, navigate to the dashboard. You'll see a table listing available assets for supply, along with your current balances and key parameters for each token. For more detailed information—such as interest rates and collateral factors—click on the token icon to view the reserve details page.
Approve the Token Transfer
Before transferring tokens, the protocol's smart contract must obtain permission to move assets from your wallet. This step, known as approval, can be done via a transaction (which requires paying a network fee) or a signature (which is fee-free).
Once you select a token to supply, a prompt will appear asking for this approval. Confirm the request in your wallet to proceed.
Execute the Supply Transaction
After approval, enter the amount you wish to supply and confirm the transaction. Your tokens will then be transferred to the liquidity pool, where they become available for borrowers. 👉 Explore more strategies for earning yield
Your supplied tokens start earning interest immediately. You can monitor your balance and accrued interest from the dashboard tab in real-time.
Benefits of Supplying Tokens
Earn Passive Income
By supplying tokens, you earn interest without active management. Your balance grows automatically as interest compounds over time, providing a steady stream of passive income.
Support DeFi Liquidity
Your supplied tokens help maintain liquidity in the DeFi ecosystem. They enable others to borrow assets for trading, investing, or other purposes, fostering overall market activity.
Use as Collateral
In many protocols, supplied tokens can be used as collateral for borrowing other assets. This allows you to access liquidity without selling your holdings, potentially maximizing returns.
Risks to Consider
Smart Contract Risk
DeFi protocols rely on smart contracts, which may contain vulnerabilities. While audits reduce risk, exploits remain possible, potentially leading to loss of funds.
Impermanent Loss
In liquidity pools, price volatility between assets can lead to impermanent loss. However, this risk is minimal when supplying single tokens rather than pairs.
Interest Rate Volatility
Supply rates fluctuate based on market demand. High utilization typically increases rates, but during low activity, earnings may decrease.
Frequently Asked Questions
What determines the interest rate for supplied tokens?
Interest rates are primarily set by the borrow utilization rate—the percentage of total supplied assets that are currently borrowed. Governance parameters, adjustable by token holders, also influence rates. Higher utilization usually leads to higher supply rates to attract more liquidity.
Can I withdraw my supplied tokens at any time?
Yes, in most cases, you can withdraw your tokens whenever you want, subject to available liquidity. If the pool has high borrowing demand, some delays might occur, but generally, withdrawals are processed quickly.
Are there fees for supplying tokens?
Typically, no direct fees are charged for supplying tokens. However, you must pay network gas fees for transactions like approvals and withdrawals. Some protocols also charge a small percentage of earned interest as a reserve factor.
Is supplying tokens safe?
While DeFi protocols implement security measures, risks exist. Smart contract bugs, oracle failures, or economic attacks can lead to losses. Always research the protocol, check audit reports, and only supply assets you are comfortable risking.
How is interest calculated and paid?
Interest accrues continuously and is compounded into your token balance. You don’t need to claim it manually; your holdings grow automatically over time, reflecting the current supply rate.
Can I supply any token?
Protocols generally support a curated list of tokens. Check the official assets list to see which ones are available for supply. New tokens are often added through governance proposals.