Compound ↗ is an algorithmic lending protocol on Ethereum that lets users earn interest on their cryptoassets or borrow against collateral. Launched on mainnet in September 2018, it is currently the second largest decentralized finance (DeFi) protocol by total value locked and has been integrated with many crypto applications, custodians and wallets. Like most DeFi projects, Compound is an algorithmic protocol that relies on smart contracts built on Ethereum. It allows users to earn income on their cryptoassets by supplying the eligible tokens to Compound’s liquidity pool ↗. Likewise, Compound allows borrowers to take out loans after posting collateral - typically a multiple of the loan amount (e.g. loan-to-value of 150%). The interest rates paid by borrowers and received by lenders are derived algorithmically based on the supply and demand of each crypto asset. There is no such thing as a maturity date and the protocol’s floating- interest rate loans can be paid back at any time. For lenders, interest rates on their assets compound continuously and are generated with every mined block on Ethereum. Lenders can withdraw their assets at any time.
Compound distinguishes itself from other collateralized lending protocols by using “cTokens” which are a representation of the assets locked in its system. With interest accruing in each cToken, each of them is convertible into a constantly increasing quantity of the underlying asset. Users can also use cTokens as collateral. Overall, users will always interact with the cTokens contract when they mint or redeem tokens, borrow, repay or transfers tokens. There are currently two types of cTokens: one that wraps ether (cETH) and one that wraps underlying ERC20 tokens (e.g. cDAI, cUSDC, cUSDT). Once users’ locked assets are converted into the latter format, they become freely movable, tradeable, and usable in other decentralized applications (Dapps). The protocol has its own risk management layer called the Comptroller ↗ which determines the users’ collateral requirements, liquidation levels and transaction approvals. The Compound protocol is governed and upgraded by holders of COMP – the protocol’s native token. At the heart of governance are the COMP token, its governance module (Governor Bravo ↗), and Timelock (a time-delayed contract that can modify system parameters, logic, and contracts). Together, these contracts allow the community to propose, vote, and implement changes to the protocol.
Photo by Willie Shaw