how to make money even when the market tanks

Tough week in the crypto markets this week. Prices are down, my beloved shitcoins are down bad, and market sentiment has swung pessimistic. C’est la vie.

In the meantime, you can still make money in crypto even when prices are moving against you.

That’s right. It’s time. Welcome to the Yield Farming post.

Yield and Yield Farming

Yield just means income. You buy something and it gives you a return without having to sell. A farmer buys a farm, crops grow, the farmer sells the crops but keeps the farm. Yield.

In TradFi, yield is things like dividends, interest on bank deposits, cash flow from operations, things like that. There are slightly fancier ways to get yield (money market funds, writing puts) and much more complex ways to get yield (spread options strategies, straddles).

In crypto, you can pursue yield as a strategy in and of itself. Smart contracts enable you to automate all the hard work so you can sit back and let compounding returns work their magic.

Yield farming involves depositing your crypto in a decentralized finance (DeFi) protocol, which then uses it to provide liquidity, facilitate trading, or lend to others. In return, you earn a share of the fees or interest generated by these activities.

It’s akin to putting your money to work for you, leveraging the decentralized nature of blockchain technology to access a variety of financial products that offer different risk-reward profiles.

Know the Risks

Crypto democratizes finance. It gives YOU the power — and it means you have to own the risks.

Everything has risk, so this shouldn’t be a surprise (even savings accounts at megabanks have risk — they may be too big too fail, but that doesn’t mean they’re too big to screw you over).

There are two risks that really matter in crypto yield.

Smart contract risk

If JPMorgan Chase was hacked, your deposits have FDIC insurance to protect you. If ShitCoinPonziYieldFarm gets hacked, your money gets a 1-way ticket to North Korea.

Smart contract risk is the first and most important risk to consider. Hackers gonna hack. Programmers gonna write bugs. It is the way it is.

That’s why I strongly recommend only using the most established, most battle tested protocols for yield farming. The longer a protocol has been around, not getting hacked, the more likely it is that it won’t get hacked in the future.

Second, you need to understand what the smart contract is doing. That doesn’t mean you need to learn to code - you don’t. But you should understand the strategy, where the yield is coming from, and what unique market risks exist in the strategy.

Consider yield from exchanges like Uniswap. Right now you can get a solid 41% APY on their USDC-ETH pool. Uniswap us legit, battle tested, and a great place to farm some yield.

41% is a lot. Got to be a catch to this, right?

Yep. There is. Impermanent loss. Uniswap uses an automated market maker (AMM) algorithm to power its trading, and AMMs are subject to impermanent losses.

Impermanent loss happens when you put two different cryptocurrencies into a pool to help others trade them, and their prices change a lot compared to each other. If one coin goes up or down in value more than the other, you might end up with less money than if you just kept the coins separately. This "loss" isn't permanent and only matters if you take your money out when the prices are still different. If the prices go back to what they were, the loss reverts too.

To avoid impermanent losses you need to either:

1. Hold your position forever (or at least be prepared to), or

2. Only participate in pools where the pairs will never diverge (like a USDC-USDT pool, or a stETH-ETH pool).

This sounds complicated, and under the hood it is, but it’s also a very reliable and legitimate source of yield. There are other situations where high yields are truly too good to be true.

Ponzi risk

You need to understand where the yield is coming from. I’m going to keep saying that over and over.

If the yield seems too good to be true, then it is. Full stop. There is no free lunch in finance.

The Anchor protocol was super popular and wildly successful. You could deposit your dollars and get 20% APR. All thru the power of magic internet money.

Turns out, that yield wasn’t sustainable at all. They were operating at a big loss, using the yield more like a marketing budget than a business model. Everyone knew this, everyone participated anyway. Anchor was built on the Terra/Luna blockchain — when everyone exited the Anchor ponzi, that broke the whole chain, and now the founder, Do Kwon, is in prison and Terra/Luna is a $40 billion cautionary tale.

If the source of the yield doesn’t make sense, then don’t take the risk.

3 Choices To Collect Fat DeFi Yields

Choice One: What are you depositing?

At the bank, they’re only going to accept fiat money in your savings account - euros, american greenbacks, or whatever your government paper ponzi of residence may be.

In crypto, you can deposit pretty much whatever you want. You can use your solana to earn more solana, your ether to earn more ether, or your dollars to earn more dollars. You can even use your coins to earn other coins. The choice is yours.

In my opinion, the smart contract and ponzi risk are not worth it for any shit coin farming. If my goal is to 10x or more on a coin, the extra 30% APR isn’t going to help. I view yield farming more as a supplemental strategy to make lower vol assets more productive while I hold them as dry powder.

I stake my ETH and SOL for example, and I have a small bag in stablecoins that earn a modest, low risk yield. That’s pretty much it.

Choice Two: Do you want cash or crops?

In crypto, there are lots of projects and dApps and trading pools that offer yield. Most pay this yield in the form of some token you probably never heard of. If that coins goes up, great. If it goes to zero, less great.

If you see some DeFi protocol advertising yields above 20% (you’ll see plenty with 100%+ APYs), then you are probably earning most of that yield in some random shitcoin. That could be fine - I built a decent size position in Tokemak last cycle by yield farming. Just do it intentionally.

As a general rule of thumb, I like to earn my yield in ETH, SOL, or a USD stablecoin.

Choice Three: Where does the yield come from?

If you’re going to park your crypto in some DeFi yield product, you better understand where that money is coming from. There’s a ton of different schemes that can generate yield, some better than others.

Some yield schemes are literally just schemes. You park your tokens in exchange for more magic internet money. Maybe they just create it out of thin air (supply inflation). Maybe they pay you the money they got from venture investors (it’s a marketing expense to them). Maybe it’s just like a bank, where your deposits are used to make loans and you get a small cut of the interest.

There’s lots of ways this can work — you need to take the time to understand. No excuses. No exceptions. Go re-read the Risks section above.

Rules of Thumb for Good Yield

Good Yield 1: Staking from proof of stake blockchains

Solana, ethereum, and many other layer 1 chains use staking to secure the blockchain. You can deposit your tokens and participate in providing that security, and in exchange you get a share of the fees generated by the chain.

If you own SOL or ETH for the long term, I recommend staking. Coinbase/Binance/etc can do this for you.

Good Yield 2: Interest from lending protocols

These protocols work just like a bank. If you trust the protocols risk management, then this yield is probably fine.

I recommend sticking with only the most established protocols that have been around a while. The true battle-tested OG’s.

Aave is my personal favorite, but you can also earn solid yields from Compound, Maker, Morpho, and many others.

Good Yield 3: Yield from Exchanges/Market Making

We talked about AMMs above in the risk section, so I won’t repeat that here. Uniswap et al are great options.

There are other types of market makers too. I have some coins deposited in the GMX dApp on Arbitrum that play a role in GMX’s derivative trading system. You deposit an asset into the pool (or in GMX’s case, just hold their GLP token), and you get a cut of the fees generated.

These protocols will each come with their own unique risks. With GMX, the yield is paid by traders getting liquidated trading perps. Fortunately for us GMX’s risk management has been historically good (and their traders historically bad), so the yields keep flowing.

Another example is Ethena. Ethena's protocol uses something called the basis trade to earn money from funding rates. Here's how it works in simple terms:

1. Buy the Coin: Ethena starts by buying a cryptocurrency, like Bitcoin or Ethereum.

2. Short the Future: At the same time, they sell a futures contract for the same amount of that cryptocurrency. A future contract is an agreement to sell the coin at a set price at a future date.

3. Collect the Difference: The price of the cryptocurrency in the future contract is usually a bit higher than the current price. This difference is the funding rate. Ethena collects this difference as their profit.

By doing this, Ethena locks in a profit without worrying about whether the price of the coin goes up or down. They make money from the difference between the current price and the future price, known as the funding rate. This strategy allows Ethena to capture yield in a relatively safe way, and then pass it on to you!

Bad Yield

Ethena, GMX, and these more complex yield schemes may be risky, but they’re not bad business.

There are many other yield schemes out there that you should straight up avoid.

Here’s one of the most common tricks. Just like the token unlocks we talked about a few weeks ago, protocols can create incentives that encourage you to lock up your tokens for an extended period of time. Think of it like a certificate of deposit at a bank. You deposit your cash and agree to not touch it for some period of time. You earn a little extra interest in exchange for giving up your ability to withdrawal.

Now, imagine if that was a stock. You lock up your stock for some (made up) reason that the protocol created. They pay you some yield (usually as a marketing expense or by inflating token supply) in exchange for locking up your coins. This removes your coins from circulation, reducing how much can be sold on the market. Less sellers, fewer coins, number go up.

That sounds great until the price stops going up and everyone decides to sell. While the price plummets, you’re stuck holding the bag, unable to sell because your tokens are locked. In the biz, this is called “ponzinomics” and it exists solely to pump the price so others can sell before you do.

If there’s no useful reason for the yield other than a ponzi, then it’s bad. Don’t do it.

Portfolio Update

No trades this week. Instead, here’s a table of some options for crypto yield that I like. I don’t have any positions in the pools listed below.

In all the examples, you both deposit and receive yield in stablecoins (ie. USD equivalent).

Some of these protocols are currently unavailable in the US due to the idiotic regulation by enforcement regime at the SEC. The sooner we can get these moronic bureaucrats replaced the better.

But in the meantime you can check out what these protocols are all about (for information purposes only) by using a self-custodied wallet and a VPN set to a more favorable location (try the UK or France).

Market Vibes