Crypto assets, explained.

What are crypto assets?

Blockchain-based financial instruments called crypto-synthetic assets mimic the value and behavior of real assets or financial instruments.

Crypto-synthetic assets, also known as “synthetic assets”, are a class of digital financial instruments created to mimic the value and performance of real-world financial assets or assets such as stocks, commodities, currencies, or other cryptocurrencies without owning the underlying assets.

These artificial assets are produced using complex financial derivatives and smart contracts on blockchain platforms, mainly in the decentralized finance (DeFi) ecosystem. The ability to create decentralized smart contracts on blockchain systems such as Ethereum, use collateral to secure value, accurately track the value of target assets, and create volatile leveraged or derived products are essential features of crypto-assets.

DeFi clients now have access to a wide range of financial markets and assets, reducing their dependence on conventional intermediaries. Users should be cautious, however, as these tools add complexity and risk to their deeper knowledge of their internal workings and the implications of their investment strategies.

Traditional vs. crypto synthetic assets

Traditional assets are tangible or monetary goods that are traded on established financial markets, such as stocks, bonds, and commodities. In contrast, crypto-synthetic assets are digital representations built on blockchain technology and intended to mimic the value and performance of these conventional assets.

The fundamental difference between traditional and crypto-assets is that traditional assets are physical or paper-based, whereas crypto-assets exist digitally only on blockchain networks. While crypto-synthetics have advantages over traditional assets in terms of accessibility, liquidity and programmability, they also come with unique risks and complexities.

Types of crypto synthetic assets

Crypto synthetic assets come in many forms such as synthetic stable coins, tokenized commodities and shares, leveraged and reverse tokens, and yielding synthetic assets.

Synthetic stable coins

Digital tokens, known as artificial stablecoins, are intended to mimic the value and stability of fiat currencies such as the United States dollar or the euro. They provide a means for people to exchange goods and services and store value in the cryptocurrency ecosystem without the volatility of cryptocurrencies.

One example of a synthetic stablecoin is SUSD, which is built on the Synthetix platform. It aims to provide users with a stable digital currency that matches the value of the US dollar.

Tokenized commodities and shares

Commodities and stocks are used as digital representations of real-world assets such as gold, oil, stocks and other commodities on blockchain networks. These synthetic assets allow decentralized fractional ownership and exchange of common assets.

An example of a synthetic asset that tracks the price of crude oil is SOIL, also developed on the Syntex platform. Without holding any oil, it allows investors to be more exposed to price changes.

Used and reversed signs

Synthetic assets known as leveraged and inverse tokens are built to increase or resist changes in an asset's price – inverse tokens capitalize on gains and leveraged tokens when the underlying asset's price declines.

For example, BTC3L (Binance Leveraged Tokens) seeks to produce daily returns that are three times the price of Bitcoin (BTC). If Bitcoin goes up by 1%, BTC3L should go up by 3%.

Productive synthetic assets

In the DeFi ecosystem, yielding synthetic assets provide holders with returns in the form of shares or loans, providing the opportunity to generate passive income.

An example of a composite property is cDAI, built on the Compound protocol. Dai (DAI) stablecoins can be issued to participate in lending operations on the Compound platform and earn interest. Since cDAI accumulates interest in holders over time, it qualifies as a yielding synthetic asset.

Applications of crypto synthetic assets

Crypto synthetic assets can be used by traders looking to profit, investors diversifying their holdings, or defy enthusiasts engaged in productive farming.

Marketing and investment opportunities

Crypto synthetic assets provide a gateway to various trading and investment opportunities. It allows traders to engage in leveraged trading, increasing their exposure to market fluctuations and generating larger profits (or losses) than conventional trading.

Additionally, synthetic assets cover many of the underlying assets in the crypto ecosystem, including stocks and commodities, giving investors a direct way to diversify their portfolios.

Agricultural production and liquid supply

In DeFi protocols, users who share cryptographic synthetic assets can farm production, acquire additional synthetic assets or management tokens through liquidity provision and incentives to actively participate in DeFi operations.

Synthetic assets significantly increase liquidity pools and overall liquidity of DeFi platforms, which is necessary to facilitate efficient trading, lending and borrowing in the DeFi ecosystem.

Risk management and hedging strategies

Synthetic assets provide strong risk management tools and hedging opportunities. Traders and investors can use inverse synthetic assets as an efficient hedge to protect their portfolios from the downside of the underlying assets.

Synthetic stablecoins offer a decentralized alternative to traditional stokercoins, protecting asset prices against volatility in the market.

The role of DFI in creating and trading artificial assets

By enabling users to create, trade and diversify their portfolios with decentralized assets, DeFi democratizes finance by enhancing decentralized financial systems and increasing financial inclusion globally.

The development and trading of artificial assets are fundamental to changing the conventional financial environment, and DeFi is a key element in this process. DeFi platforms will revolutionize how we interact with financial instruments by using blockchain technology and smart contracts to create, mine and trade artificial assets.

First, DeFi eliminates the need for intermediaries, improves accessibility and productivity. Users can exchange cryptocurrencies to issue tokens that replicate the value of real-world assets such as stocks, commodities, and fiat currencies.

Second, DeFi's open and license-free design encourages innovation by allowing programmers to experiment with different synthetic asset designs and transaction strategies. This innovation has democratized access to global markets by giving users 24/7 access to a variety of assets.

DeFi platforms provide liquidity pools where users can easily trade virtual assets. These systems encourage product farming by donating money to users and participating in the ecosystem.

Advantages of crypto assets

Crypto-synthetic assets offer many benefits, including diversification, leverage, de-fiying participation, increased liquidity, and reduced risk.

Cryptographic synthetic assets offer many advantages to the digital finance space. The ability to access a variety of assets, including traditional stocks, commodities and currencies, is the most important of these benefits as it allows users to seamlessly diversify their portfolios in the cryptocurrency space, reducing risk and optimizing investment strategies.

These assets open the door to leverage that allows traders to increase their exposure to asset price volatility and potentially generate higher profits. They play a vital role in DeFi by allowing users to actively participate in farming and liquidation and receive rewards for it.

In addition, artificial assets provide the basis for liquidity pools, increasing the overall liquidity of DeFi platforms – a critical element in enabling efficient trading and lending activities. These resources serve as important risk management tools, giving users the skills they need to protect their investments from adverse price fluctuations.

Challenges and risks associated with integrated properties

While artificial assets offer new opportunities and solutions, they are not immune to problems and risks, such as smart contract weaknesses, currency fluctuations, regulatory unpredictability, and word-of-mouth problems.

The use of synthetic assets in the crypto and blockchain industries comes with many risks and considerations that must be carefully considered. One of the main concerns is the possibility of smart contract flaws or manipulations that can lead to huge losses. For example, in In the infamous DAO attack of 2016, a smart contract vulnerability resulted in the theft of an estimated $50 million worth of Ether (ETH), highlighting the dangers that complex financial instruments pose.

Another issue is market equity, as some synthetic assets may be worth less than their real-world counterparts. This leads to price manipulation or slippage during trading which affects the stability of the market as a whole.

Additionally, regulatory oversight continues to be a concern as governments around the world struggle to define and regulate these unique financial products. The ongoing legal disputes and regulatory changes involving stablecoins such as Tether (USDT) provide an example of the legal problems that synthetic assets can face.

Finally, overreliance on verbose systems that provide smart contracts with access to real-world data creates security risks. For example, if an oracle is breached, it could provide incorrect information, which could affect the utility and value of artificial assets that depend on it.