Cryptocurrencies have gone from a curious fad to payment options and significant Wall Street investments in just under a decade. Bitcoin, for example, has gone from an exciting hobby for computer enthusiasts to a nearly $1 trillion idea.
Of course, as with any investment and new marketplace for investors and speculators, there’s always room for improvement. And that’s what Aave has already been able to provide in its short four years. Both its collateralized loan options and its innovative “flash loans” are making this DeFi-designed cryptocurrency a name all crypto traders and users know.
Now it is possible to harness this immense growth opportunity through a retirement account, complete with all of the tax advantages offered.
What is an Aave IRA?
When you think of investments in retirement accounts, you might imagine mutual funds, bonds, and single stocks. But there are so many other investment options out there. Precious metals, cryptocurrencies, and other alternative assets are now available inside a self-directed IRA (SDIRA). Though, it’s important to note that not all retirement accounts are the same.
Conventional IRAs, for instance, limit the types of assets you can hold. These are often limited to securities like mutual funds, index funds, bonds, and single stocks. But with an SDIRA, you have more control and can invest in digital assets like Aave inside your IRA.
This is what an Aave IRA is. It is an SDIRA that includes AAVE cryptocurrency and virtually any other asset you might want to include, digital or not. Individual stocks or ETFs, mutual funds or bonds, physical precious metals like gold and silver and other cryptocurrencies including bitcoin and ethereum are all available investments to you, once you have your own SDIRA. Plus, you get the same tax advantages as a conventional IRA or 401(k).
In many ways, an SDIRA takes the “training wheels” off your retirement planning. After all, it’s your money – shouldn’t you be able to invest it as you see fit?
What is Aave (AAVE)?
Of course, before making any moves with your money, especially your retirement funds, it’s crucial to understand what’s at stake. Due diligence is a vital step for all investors. Fortunately, Aave is a remarkable platform and digital currency combination that is garnering well-earned attention.
The Aave platform allows users to both borrow and lend other cryptocurrencies to each other. Its protocol enables the lenders to earn interest on their assets. Borrowers, in turn, have a large pool of assets from which to borrow for any number of reasons. For example, speculation and collateral protection are common reasons.
Think of it this way– if you buy bitcoin right now and hold it in a digital wallet, it just sits there. You can hope it goes up, as it has so often in the past. But it doesn’t grow or earn interest like money in a savings account. With Aave, your bitcoin and other cryptos can earn interest as long as it’s held on the Aave platform while also benefiting from the gains bitcoin may experience.
(Note: owning cryptocurrencies on the Aave platform differs from owning cryptocurrencies in an SDIRA, which has various tax benefits.)
Now AAVE the cryptocurrency is different from Aave the platform. The cryptocurrency is the “governance token” of the platform. Meaning, an AAVE token gives its owner voting rights on issues affecting the platform (just like stockholders in corporations have voting rights). AAVE holders have the opportunity to influence this already successful protocol and platform development.
There’s another type of token Aave investors should be familiar with: aTokens. These tokens are the interest payment lenders earn on their crypto through Aave. Whenever their assets are borrowed on the platform, they accrue aTokens. These come in the form of whatever asset the lender has on Aave.
For instance, if you add ETH to the lending pool on the Aave platform, you would receive aETH. That aETH would automatically convert into ETH when you cash out, giving you more ETH than you put in.
How Did Aave Get Started?
Back in the mid-2010s, there were limited options when it came to lending in the cryptocurrency world. There simply wasn’t such a thing as decentralized finance (DeFi) at all. Founder Stani Kulechov decided to build his own and develop what would become the next great innovation for this young and exciting industry.
Aave was initially called ETHLend, as its first allowed crypto was Ether. Aave (like most DeFi networks) operates on the Ethereum blockchain. After seeing the need to expand beyond lending Ether only, Kulechov decided to rebrand it. Its current name, Aave, means “ghost” in Finnish.
The platform launched in November 2017, changing its token’s ticker from LEND to AAVE in October 2020. In this short amount of time, it has grown its market cap to more than $5 billion and its liquidity protocol (available for borrowing) to more than $24 billion (380% growth!)
How Aave Works
As you can imagine, lending cryptocurrencies isn’t exactly like going to a bank for a car loan. Aave is actually the leader in two types of loans: collateralized and “flash” loans.
Collateralized loans are exactly what they sound like: borrowers put up cryptocurrency of their own as collateral to borrow a different one from the lending pool. This secures the loan. In fact, Aave requires more collateral than the loan, offering more security to lenders. This is a good idea, considering that drastic price movements could devalue collateral during the period of the loan, which might incentivize borrowers to simply default on repayment.
On the other hand, Flash loans are unique to Aave and are the reason it is so well known. These loans are uncollateralized but are protected in a completely different way. Flash loans are instant loans and require several things to happen before any crypto is exchanged.
First off, flash loans follow “if-then” propositions. For instance, IF all of the requirements are met, THEN crypto is lent out. One of these “ifs” is that the loaned crypto will be repaid within one single transaction.
Obviously, this is a bit different than how most people think of loans. You don’t typically take out a $10,000 bank loan and repay it that same instant. But with digital currencies, that is indeed a need. So far, there are three main reasons why someone would take out a flash loan.
3 main use cases for Aave flash loans:
- To Swap Collateral — It’s no secret that cryptocurrencies can move pretty quickly. If you take out a loan and the collateral is crypto, you might want to switch it out in case of volatility. Let’s say you put ETH down to borrow DAI. If ETH starts climbing higher, you might want to swap it for some other collateral to profit from that climb. A flash loan allows you to do just that. You borrow the new collateral, swap it for the ETH, sell the ETH, and pay back the flash loan along with a small interest fee. This, through the large amount of information contained in Ethereum blocks, is one single transaction. If all of those parts go through, if all the funds are available, the flash loan is executed. Otherwise, the loan fails (sort of like getting an attempted credit card charge declined).
- For an Arbitrage Play — There are plenty of speculators and traders attracted to cryptocurrency. One type of trade they have been able to profit from is an arbitrage play. “Arbitrage” simply means profiting from differing prices on the same asset in different marketplaces, buying an asset at the lower price to sell it at the higher price. Suppose exchange rates vary, even by a small amount, on a pair of cryptos at two different exchanges. In that case, a speculator can use these flash loans to borrow and take advantage of this arbitrage between the exchanges. All paid back in the same instant it was lent out — and with luck, the speculator’s transaction results in an after-fees profit.
- To Self-Liquidate — Similar to the first use of flash loans, this one requires a second loan. That second, collateralized loan, in this case, is in trouble. If the collateral put up for a loan begins to fall, the lender could ask for more.
This is how margin works for any type of investment. But what if you don’t want to risk it? Say you want to get out before your margin is called. You can liquidate the position with a flash loan, swapping out the collateral while exiting both loans at once.
How Does Aave Stack Up in the DeFi World?
Decentralized finance is still relatively new. But there have already been a few big players come along, Aave included. One such alternative is Compound. Its $18 billion-large lending pool is comparable to Aave’s $24 billion one. So, here’s how they stack up:
|Symbol||AAVE (formerly LEND)||COMP|
|Market Capitalization||$5.3 billion||$2.6 billion|
|Liquidity Pool||$24 billion||$18 billion|
|Cryptos on Offer||23||9|
|Allowed Borrowing Against Collateral||75%||66.60%|
Why an Aave IRA?
This DeFi space, especially the flash loan arena, is still new. And there’s no telling just how important it will become as cryptocurrencies continue to grow. You can imagine what that would do for the platform and the AAVE holders that control it. And, since owning AAVE is in a sense partial ownership of the Aave platform, as the platform grows, it’s likely we’ll see continued interest in the AAVE cryptocurrency grow right along with it.
Combine that with the tax advantages that come with self-directed IRAs, and you get a unique opportunity. That’s what an Aave IRA can do: combine the investment freedom of an SDIRA with the growth potential of a cryptocurrency innovator like Aave.
How to Get Started
As if the various cryptocurrencies aren’t enough to overwhelm potential investors, rules regarding IRAs and retirement accounts can be overwhelming. Fortunately, there’s an easy answer.
Our SDIRA experts at BitIRA can help you through the process of rolling over funds and setting up your retirement account. They can assist with reviewing available investment options, including digital assets like Aave. Give us a call today to learn more.