Despite the loud echoes associated with cryptocurrencies that spread across the international financial markets, many investors quickly discovered that the oldest cryptocurrency has significant limitations. Like traditional financial assets, Bitcoin can only be bought, borrowed, stored, and sold. The community focused around the cryptocurrency sector discovered after some time that the limitations of Bitcoin do not have to burden more sophisticated forms of financial instruments based on distributed ledger technology. Ethereum is a panacea for almost all the disadvantages of the Bitcoin network and opens up a whole new spectrum of possibilities. One of the milestones that Ethereum has introduced to the digital currency ecosystem is the opportunity to develop innovative decentralized financial products.
The constant search for tomorrow's finances has ultimately led to a more efficient, faster, and fairer algorithm that rules the financial industry. This is how decentralized finance (DeFi) was born. This is a real breakthrough in the financial system. The idea behind DeFi presupposes a peer-to-peer plan that de facto removes unnecessary middlemen from the system. Through peer-to-peer networks and fully automated blockchain-based “smart contracts,” DeFi is eliminating archaic, centralized institutions while democratizing the financial system. Already at this stage, DeFi found a number of practical applications in many innovative projects, and as a consequence, it led to huge experiments and billions of dollars in revenue.
While the decentralized finance sector has been on the horizon for some time, there is a widespread belief in the cryptocurrency community that this is only the beginning of the great role that this innovative branch of the financial system will play. The popularity that accompanies the DeFi phenomenon constantly leads to the emergence of new types of digital assets that are widely used by a large spectrum of investors spread around the world. Synthetic assets are one of these new types of assets.
Dive deep into synthetic assets
In traditionally understood finance, synthetic financial instruments consist of assets of the same value as the underlying assets. In the cryptographic dimension, the model of synthetic assets assumes that they are tokenized derivatives. In a word of explanation, financial instruments whose value is derived from various assets or benchmarks are called derivatives by economists and bankers. The main difference between derivatives and synthetic assets is that derivatives provide individualized exposure to underlying assets, while synthetic assets are tokenized representations of these positions.
In the world of digital currencies, derivatives are gaining in popularity as they allow investors to benefit from the fluctuations of a wide range of tokens without having to hold any of them in a portfolio. What's more, synthetic assets have a lot of enthusiasm among the cryptocurrency community because they are a trading tool that until now was only available to traditional traders.
Synthetic assets in the digital currency sector allow traders to take exposure to virtually any type of asset serving as a variant of the underlying asset in this case. In practice, the only limitation of individual DeFi protocols is the range of assets offered by blockchain oracle platforms. Real-world assets are recorded and represented on the blockchain through tokenization. To put it simply, the mechanism of this process consists in the fact that a particular investor receives a cryptocurrency token to his address, which serves as proof of ownership of real-world assets. In this way, decentralized finance opens up a new dimension of investment opportunities for both retail and institutional investors. Typically, this is done by fractionating real assets such as stocks, precious metals, commodities, real estate and other hard-to-find assets. In addition, cryptocurrency synthetic assets provide investors in the crypto asset sector with additional security and transparency. This is because traders do not need to deposit their tokens on any kind of investment platforms, but on a smart contract address. On the other hand, blockchain technology determines that all trade can be traced by each of its participants. An additional element that encourages many investors to use cryptocurrency synthetic assets is that transactions are recorded in a distributed ledger, which guarantees investors anonymity. At this stage, more and more DeFi solutions are entering the market day by day as interest in synthetic assets continues to increase among the cryptocurrency community.
Synthetic assets are transforming the DeFi sector
The introduction of cryptocurrency synthetic assets generates a completely new definition of these financial instruments, bringing them into the twenty-first century by opening infinite liquidity to investors. Democratizing the financial sector and increasing access to alternative investment opportunities of the future are the main goals of tokenizing assets reflecting the prices of underlying instruments. This groundbreaking financial concept enables individuals and companies to access opportunities they have never had before. Executing multiple transactions on a digital distributed ledger and utilizing self-executing smart contracts opens up the possibility of near-instantaneous and infinite liquidity when opening and closing positions.
Generating synthetics is possible thanks to the use of functions included in smart contracts, which enable the creation of debt within individual financial protocols. The architecture of this system allows investors to incur debt in any assets with quotations determined by blockchain price oracles. As a consequence, decentralized financial protocols can therefore provide exposure to a very wide spectrum of assets via blockchain oracles, additionally providing access to an infinitely liquid market.
Advantages of synthetic assets:
Permissionless Minting: Any entrepreneur or member of the cryptocurrency community can create a synthetic system of financial assets using blockchains like Ethereum
Access and transferability: Synthetic assets can be freely traded for purchase and sale
Frictionless Transfer: The trader can transfer their positions between synthetic stocks, synthetic silver or gold and other synthetic assets without the need for an underlying asset.
Global and infinite liquidity: An additional advantage of decentralized synthetic asset protocols is their "infinite liquidity".
Summary
Synthetic assets based on blockchain technology and the economic models that support them have and will probably have a profound impact on the entire financial sector in the future. These models enable cryptocurrency traders to take investment positions in traditional assets and derivatives while maintaining access to the innovative digital economy. The synthetics industry plays an important role in traditional financial markets and is also becoming a significant factor in one of the latest trends in the world of digital currencies, which is DeFi. The cryptocurrency financial industry is still in its very early stages of development and new financial products need to pass the test of time and more experimentation from both developers and active traders of the cryptocurrency ecosystem.
