Anchor protocol savings
What is the first thing you learn about financial education when you are a child? In most cultures, your parents teach us about money-saving. You have to save money for the future, and as a child, you probably saved money to buy something you wanted. That is a powerful way of starting a mindset early to build wealth. As an adult, you will start to take notice of saving accounts provided by banks. They give you money if you deposit your hard-earned cash with them.
How much do they pay you to keep your money with them? On average, a bank in the United States pays 0.5% of the Annual Percentage Yield (APY). With a yield of this magnitude, those accounts should be renamed as losing accounts and not savings. Why? Because they will make you lose money.
A key point of any savings strategy is to protect your money purchasing power. Each year that purchase power decreases due to inflation. If we have an inflation rate of 2% in a year, you should find a savings account that gives you at least that same APY to protect your money. Anything below will make you lose purchasing power.
For instance, in 2021, we have estimate inflation in the United States of 5%. Anyone with a savings account receiving 0.5% as interest is getting a big hit in their purchasing power. If you do the math, you lose 4.5% on average. A deposit of 1000 USD in savings account results in 1005 USD after a year. Due to inflation, your money will have the same purchasing power of about 950 USD a year before.
Anchor protocol savings
As a way of protecting your money purchasing power and also gain some high yield, we have in the Terra blockchain the Anchor Protocol. Instead of having that 0.5% APY of a bank, in Anchor, you get 19.25% interest on your deposits. That will not only beat inflation by a large margin but also increase the purchasing power of your deposits.
Remember that example of a 1000 USD deposit? If you deposit it in Anchor, after a year, you get 1192.50 USD.
How is it possible to give such high yields?
To better understand how Anchor Protocol can give you such high yields, we must take a look at how the protocol works. One thing you should keep in mind is that Anchor is a money market for the Terra Ecosystem. You can do three main things in Anchor:
- Deposit
- Borrow
- Bond assets to use as collateral
You can also participate in the protocol governance, but we can take that aside and focus on the money market.
Borrowing from Anchor
A key feature of Anchor is the ability to borrow against a collateral deposit. For instance, let’s say you have 10000 LUNA tokens and you need money to buy a new car. Each LUNA token has an estimated price of 8 USD. That means you have a total of 80.000 USD in value. By turning those LUNA tokens to bLUNA and deposit them in Anchor, you can borrow up to 35% of that value.
In this case, you can get up to 28.000 USD using your collateral. If your car costs about 20.000 USD, you can easily borrow the exact amount and keep your LUNA tokens. Any value that you borrow from Anchor will pay interest. Today, a value borrowed from Anchor pays an annualized rate (APR) of 16.9%.
Why would anyone borrow money against their tokens? It seems to be easier to sell the tokens and get your money to spend. By selling the tokens, you avoid paying any rates. An aspect of that workflow that you should always keep in mind is that by selling your tokens, you may have a taxable event. Yes, you probably will have to pay capital gains taxes if you sell the tokens. In most countries, a debit is tax-free.
Depending on tax laws where you live, it could cost you a lot more to sell your LUNA. For instance, in the United States, those taxes range around 15–20%.
If you sell the tokens, you give away the asset (LUNA) and pay the taxes. By borrowing against your tokens, you pay the same and keep your assets. If the price of LUNA goes up in the future, you will be able to profit from those gains.
A key component of Anchor is the ability to borrow against your bonded tokens. At the moment, they only support LUNA. In the future, you will also be able to bond ETH and other tokens.
From the APR paid from those borrowings, you get a big chunk of Anchor APY for savings.
How banks make money?
Before we dive further into how Anchor Protocol works, we must take a break and think for a moment about your bank. Do you know how they make money? A bank can’t print money, and therefore, it must come from somewhere.
If you never thought about that, we can summarize the workflow of a bank as:
- You deposit your money in the bank and get that incredible 0.5% APY if you leave it there for an entire year.
- The bank takes your money and lends it to someone else. Yes, they will lend your money to other people and businesses.
- To make the process profitable to the bank, anyone borrowing money will have to pay a much higher interest rate to the bank. For instance, a personal loan in the United States has fixed rates between 7–18% a year on average.
- From that rate, the bank takes 0.5% to give back to you and keep the rest to themselves.
As you can see from this workflow, a person depositing money to get back such low APY is the real loser in the process.
The power of Defi for Terra
Since banks are taking your money and lending that to other people for profit, wouldn’t it be great to do that directly? What if you could lend your money to other people and keep the profits? With no middleman in the process, you can get all the profits.
That is what Anchor Protocol enables for the Terra Ecosystem and is part of a revolution taking place nowadays. Have you ever heard about Defi? That is what people call decentralized finance. This is a system that doesn’t use any middleman and uses smart contracts to control cash flow.
In a bank, you have lots of variables that you must take into consideration if you want to get a loan:
- Your credit history
- Your relation to the bank
- Even the mood of employees
If everything goes right, you get your loan.
In Defi, a smart contract takes care of everything. It is software that controls all the aspects of the process. The contract doesn’t care about your credit history, where you live, or anything else. As long as you have the collateral deposited, you can take a loan.
When you deposit any amount for savings, that same smart contract makes sure your money goes into the pool that people can borrow. It works like a bank. But, you are the bank and take all the profits for yourself.
Besides getting the APR paid by borrowers, in Anchor, you also get part of the APY as rewards from other Proof of Stake blockchains.
How to deposit in Anchor?
To get those high-yield APY in Anchor, we have to follow a few steps. The first thing you have to do is get TerraUSD or UST to use in Anchor. There are two main ways of doing that, and both involve the use of an exchange:
- Deposit fiat in an exchange and buy UST
- Deposit fiat in an exchange and buy LUNA. Send the LUNA to your Terra Station wallet and swap that to UST
What is UST? It is a stablecoin that has a peg of 1 to 1 in relation to the Dollar. Unlike crypto that is highly volatile, a stablecoin keeps the peg. In the Terra blockchain, you find multiple stablecoins, and the UST is by far the most popular.
Once you get the UST in your wallet, open the Anchor Protocol Earn section.
Click on the deposit and choose the amount you want to add.
Notice that there is a fee you have to pay. That goes to the validator that will run a code to verify the smart contract. Click on the Proceed button, and you are done!
Notice that Anchor will even give you an estimate of how much you will earn based on multiple timeframes:
- Day
- Month
- Year
At any moment, you can withdraw the funds using the Withdraw button. You also have to pay a fee to process the transaction. For that reason, it is always wise to keep a small amount of UST in your wallet to pay for those transactions.
And that is it! Now you know how Anchor protocol works. It is a great way of getting a high yield in your savings and move away from a traditional bank. Earn some money and beat inflation by a large margin.
