What is Compound Dai?
Compound DAI or cDAI is a token that investors can earn interest with when they deposit DAI tokens on the Compound Finance lending protocol platform. Essentially, it is a token that allows investors to earn interest on their deposited DAI tokens.
Decentralized Finance (DeFi) is allowing investors to borrow and lend crypto with ease. This is a revolutionary development in the crypto market as we now have a decentralized financial ecosystem in which investors earn interest on assets that are in a relevantly safe platform.
Compound Finance has emerged as a very popular DeFi platform, and it is where cDAI originated. Investors deposit DAI tokens into the platform and receive cDAI back as a token to give them a return on their deposits.
cDAI acts are similar to a bond where an amount of cDAI will guarantee a certain amount of DAI back in accordance with the exchange rate between the pair from the platform, including interest.
Furthermore, cDAI is an ERC-20 token that operates as a part of the Ethereum blockchain. This means it could be traded, bought and sold, or used as payment with any wallet or platform that is compatible with the Ethereum blockchain.
As a regular token that can be traded, the cDAI token may help the Compound platform, as its deposit tokens are liquid assets in their own right.
What is the Purpose of Compound DAI (cDAI)?
cDAI, like any other cToken in Compound, allows investors to lend their crypto to other users and get a cToken back as a result.
This cToken will permit investors to lock up a certain token amount, such as DAI, on a Compound and gain interest. It is a lot like a savings account at a bank but without the bank. Aside from creating returns for DAI token holders, the cDAI token can be used as a means of payment.
Tokens like cDAI allow users to access the liquidity in their invested assets and use them in other ways. At the same time, they are locked up, receiving interest from their invested crypto and opening up another liquidity stream.
DAI is a stablecoin that was designed to provide a foundation within the crypto market. Trading it for cDAI allows investors to add another layer of usability to the existing token. This is partly the reason why interest earned from cDAI can be much higher than other cTokens, like cETH.
As an ERC-20 token, cDAI can be used in the ETH blockchain ecosystem like any other token.
How Does Compound Dai (cDAI) Work?
cDAI functions as a redemption token, as previously mentioned. Investors trade DAI for cDAI to earn interest at a later date.
Here is a little more information on interest is calculated.
Within Compound, cTokens are intrinsically made to always increase in value compared to their original token form. This means the exchange rate between DAI and cDAI will increase over time.
This function is hardcoded into the blockchain, and it can not be altered and will always be honored.
This is the basis of how this works is simple:
Exchange rate= Underlying Balance + Total Borrow Balance – Reserves / cToken supply
This means as the total borrowing balance increases, the exchange rate between cToken and its originated asset will increase in value.
For example, let’s say 1 cDAI can be exchanged with 0.0209634 DAI. Hypothetically, if an investor has 100 DAI in Compound, with simple math, he/she will receive 4770.21857 cDAI in return.
Let us say 6 months have passed, and now the exchange rate is 0.0218938, and the investor decides to trade in their cDAI and withdraw from their lending platform. He/she will receive approximately 104 DAI (This hypothetical case only shows the function of cDAI and does not reflect the rate in reality).