Misleading APY
You should take all the APYs with a grain of salt. You can see some projects estimating their APYS in hundreds of percent. Keep in mind that these yields don’t take into account the value of the fees and tokens rewarded. In instances where the token rewards experience a short and sharp bubble (as was seen with COMP quickly moving from $60 to $330), yields can be misleading.
Price volatility
Price volatility of the underlying assets should be considered, before you jump into the yielding. If you see that the asset is providing very high APY, yet it seems that it can suffer considerable capital losses — the strategy is likely to be unfavorable. It also works in the other direction.
APY is not a stable number, it depends on the following variables:
Pool liquidity, and your respective share in the pool rewards allocation.
Tokens prices.
In this instance, we are looking at how the price volatility can affect the APY. If the price of the assets is likely to drastically go down, APY will go down too, and vice versa. If the price is showing extreme roller-coasters, there is no basis to believe that it will increase and stay at high numbers for a long time.
This way, after a year passes you are not likely to receive the rewards predicted by the APY set in the first place.
Risks
Returns in yield farming are never risk free. The high yields are a reflection of the significant
risks taken on by the liquidity provider. These risks include but are not limited to:
● Smart contract risk
● Platform risk
● Oracle risk
● Exchange rate risk
● Black swan
Also, don’t forget about theft. The digital money you lend out is effectively held by software, and hackers seem to always be able to find ways to exploit vulnerabilities in code and make away with funds. Some coins that people are depositing for yield farming are also only a few years old at most, and could potentially lose their value, causing the entire system to crash.
What’s more, early investors often hold large shares of reward tokens, and their moves to sell could have a huge impact on token prices.
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