The days of earning large DeFi yields from staking or lending your cryptocurrency coins are being challenged by the ever-changing form of the crypto space. Still, there are projects, such as Anchor Protocol, looking to maintain the profits that crypto users have become accustomed to. In the following guide, we’ll look at how the Anchor Protocol works, its advantages and disadvantages.
KEY TAKEAWAYS
► The Anchor Protocol was a DApp that offered high yields on UST deposits and relied on an over-collateralized system for lending and borrowing.
► The Terra-Luna ecosystem’s collapse in May 2022 caused the downfall of Anchor Protocol due to its dependency on the algorithmic stablecoin UST.
► Anchor Protocol’s main appeal was the high, stable yields it provided, but its risks included reliance on UST’s stability.
► The failure of Anchor Protocol serves as a cautionary tale for the future of yield-earning mechanisms in decentralized finance.
What is Anchor Protocol?
Anchor Protocol is a Terra-based lending and borrowing protocol. It provides UST depositors up to a 20% annual percentage return. Borrowers can use bonded LUNA (bLuna) or bonded ETH (bETH) to secure UST loans.
It uses an over-collateralized architecture to allow users to borrow, lend, and earn interest with their digital assets. The protocol also allows for fast withdrawals and pays depositors a low volatility rate.
The decentralized savings system offers low-volatile returns on the TerraUSD stablecoin (UST) deposits. Anchor rates are powered by a diverse stream of staking rewards from major PoS blockchains. With this in mind, you can expect them to be more stable than money market interest rates.
Anyone can participate in the protocol. Anchor is a promising savings tool. It is also a decentralized protocol. This means that anyone can join it from anywhere without KYC.
Anchor Protocol origins
Anchor Protocol was founded in 2020 and is headquartered in Seoul, South Korea. It was officially launched on Mar. 17, 2021. Terraform Labs (TFL) is the company that developed the Anchor application. It was designed to work in conjunction with the Terra blockchain and its cryptocurrency, LUNA.
It was TFL’s vision to integrate a few primary financial primitives on the Terra blockchain, including savings via Anchor and payments via UST. TFL’s plan was to integrate three main directives:
- Payments made using UST
- Savings using Anchor
- Investing in the Mirror Protocol
These are all done on the Cosmos SDK-based Terra blockchain. Due to the volatility in crypto assets’ prices, staking didin’t seem like a suitable option for some people at the time.
As mentioned earlier, Anchor is a savings platform. It pays a dividend based on block rewards from popular PoS blockchains. Anchor assigns block rewards to assets that are used to borrow stablecoins in order to provide a consistent yield.
Anchor Protocol was established to increase demand. It offers approximately a 20% yield for lenders. Anchor is paired with Mirror Protocol and TFL’s Chai wallets to expand the range of use cases for Terra-based stablecoins. The protocol’s ultimate goal was to become an interchain protocol that allows its users to access DeFi services in the Terra-Luna ecosystem.
What are stablecoins?
Stablecoins are tokens that peg their value to a fiat currency (e.g., USD) or some other real-world asset (e.g., the price of gold). They have the advantage of withstanding the volatility of the cryptocurrency markets. They also offer great accessibility and mobility. This makes them essentially stable digital currencies.
Stablecoins allow investors to convert their profits into a dollar-equivalent amount. They can then invest the amount elsewhere or withdraw the money to their bank accounts.
These tokens, primarily, enable investors to instantly “cash-out.” This leaves them without worries about how their crypto portfolios may have changed over time due to price fluctuations. It’s a way to avoid some of the instability of the crypto markets.
UST was one of the largest decentralized stablecoins at one point when judged by market capitalization. It was one of the fastest-growing markets of the crypto industry in 2021.
How does the Anchor Protocol work?
In essence, the Anchor Protocol is meant to be a decentralized application that caters to people who want to borrow crypto and receive a stable yield on their deposits.
The Anchor Protocol looks to create a balance between these two purposes through a permissionless and decentralized application. Understanding how Anchor Protocol works will help us better understand the DeFi landscape. Let’s take a brief look at how Anchor Protocol functions.
As previously mentioned, the Anchor Protocol follows three main objectives. It completes these objectives using loan liquidation, the bonded assets (bAsset) that we mentioned, and the platform’s money market.
A bAsset can be described as a tokenized claim to a stake on a PoS blockchain. Technically, bAssets can be created on any PoS blockchain that supports smart contracts. This token, just like the asset you staked, will grant you block rewards.
A bAsset is different from a staked asset in that it is fungible and can be transported. This means that bAssets are liquid, just like the underlying asset.
What is Earn? How does it work?
The Anchor Protocol is similar to a savings account in tradfi. The idea would be for users to choose the “Earn” option and then collect the interest without further effort. Because of this, the “Earn” option is the central pillar of the project.
Earn allows users to earn Anchor yields on Terra stablecoins. You can deposit and withdraw Terra stablecoins from it, and track your current deposit value, transaction history, current deposit annual percentage yield (APY), as well as the amount of Anchor interest earned.
Step 1
The process is simple. Just visit the Anchor Protocol page. Visit the “Earn” section. Once here click on “Deposit” and enter the required details for the deposit.
Step 2
If you do not own any UST, you can purchase Luna or UST from an exchange that supports these assets. After purchasing it, you will need to withdraw the sum to your Terra Station wallet. Make sure you write down your password and mnemonic phrase.
Step 3
You also have the option of using the Terra Wallet to swap from Luna to the stablecoin UST and vice versa.
Step 4
Once you have staked your stablecoin, the interest will be paid to you in an aUST token, which you can convert into UST later. You can then withdraw it whenever you wish, without any inconveniences.
Users can deposit stablecoins that are based on Ethereum as well. These include BUSD, USDC, DAI, and USDT. The yields are provided in reference to the Anchor Rate.
What is Borrow? How does it work?
The Anchor Protocol also includes the “Borrow” option. This allows users to apply for loans. To do this, the users need to initially generate bAssets (bLuna or bETH). They can do this by visiting the “bAssets” tab.
Terra’s money market is a WebAssembly smart contract. It functions on the Terra blockchain. Terra stablecoins are borrowed and deposited. Terra money market allows anyone to obtain a loan. However, they must have the appropriate amount of collateral in order to be eligible for the loan.
Anchor Protocol maintains an algorithm that determines the interest rates for both the borrower and depositor. This algorithm generates interest rates for loans based on current availability and borrowing demand.
In order to lend Terra stablecoins on the Anchor’s market, incentives are provided. Borrowers receive the Terra stablecoins through a bAsset collateralized loan. They provide interest to depositors. Furthermore, deposited collaterals generate subsidies.
The “Borrow” element of the Anchor Protocol potentially offers large rewards for users. At a nominal rate, users can borrow stablecoins (UST) against their collateral (LUNA/ETH).
When you want to withdraw your funds, you will need to hit the “Repay” button. This allows you to withdraw the collateral that you have provided. You will then visit the “Bond” tab and “Burn” that collateral.
The platform will provide you with two options on the “Burn” tab. With “Direct Burn,” as the name implies, you will have to wait for 24 days to receive your Luna collateral back. The wait time is due to the coin being part of Terra’s staking system.
You also have the option for “Immediate Burn.” With this, you receive an instant withdrawal. However, you will need to pay larger fees overall.
Utilizing the Terra blockchain
A Web Assembly smart contract governs the money market on the Terra blockchain. This governs the borrowing and lending system, with the UST stablecoin at its core. Essentially, when you deposit coins on Terra, you are contributing to a pool. The loan interests derive from this pool.
Borrowing coins involves providing some coins back as collateral. The exact amount is calculated based on supply and demand within the protocol. Similarly, interest rates are paid out based on an algorithm maintained on the Anchor Protocol.
The algorithm considers the same supply and demand factors. This is the Anchor Rate. In order to determine the rate, the smart contract will split the block rewards obtained from the bAssets acting as collateral between the depositors and the borrowers.
Pros and cons of Anchor Protocol
There are many benefits and risks to using an application like Anchor Protocol. In brief, Anchor has a complex mechanism. Typically, the more complex the issue, the more difficult it is for users to understand the risks.
The upside is that it provides high yields and low volatility during stable times. However, Anchor utilizes the UST stablecoin, an algorithmic stablecoin. These types of stablecoins are notorious for depegging.
| Pros | Cons |
|---|---|
| High yield on deposits | Smart contract risks |
| Low volatility | Dependence on UST’s stability |
| Instant withdrawal | |
| Borrow stablecoins at low costs |
Benefits
Anchor Protocol looks to distinguish itself from potential market rivals through a few essential features. First of all, it provides a high yield in exchange for deposits. Furthermore, it allows for instant withdrawals of funds. Lastly, the interest rate involves low volatility. All of this makes it a potentially good savings opportunity.
Users can borrow stablecoins with their assets. They can also then buy more of the same asset to increase their leverage. Users can also benefit from low rates by borrowing stablecoins at a lower cost and investing in bAssets with a higher yield than the borrowing cost.
Risks
We’ve looked at the opportunities presented by Anchor Protocol. To fully understand the security presented here, it is important to also look at the risks involved. In this case, they refer to two types. The first is the smart contract risk. The second is the risk associated with the UST pegging status.
Smart contracts are an incredible use of modern technology. Still, they are also susceptible to cyberattacks and technology failures. Like any other software code, smart contracts require rigorous testing and appropriate controls to minimize potential risks to blockchain-based business processes.
Hackers may be able to steal money from users if there is a security hole in the blockchain network that hosts a smart contract. The fraudulent activity might not be detected. Hackers can exploit this.
Terra has, however, partnered with various third-party insurance providers to offer plans that reduce the risk of smart contracts and de-pegging. Furthermore, Terra has contracted two audit firms to ensure that the protocol is safe for all its users. They conduct regular audits to identify any potential security issues.
Stablecoin stability
Another risk is the consistent value of the stablecoin. An algorithm calculates the value of UST. The cryptocurrency LUNA backs its value. It is possible that the conversion ratio to the stablecoin can differ when the markets for LUNA are particularly volatile. To bring UST back to $1, the protocol must burn LUNA. This means that fewer LUNA are available to sell.
How to use Anchor Protocol?
Anchor Protocol allows users to benefit in a number of ways. Let’s learn how to start using it. The Anchor Protocol uses a number of wallets. However, the easiest method involves using the Terra Station browser wallet. This connects users to applications on the Terra blockchain.
Step 1
Install your wallet first, then access the Anchor Protocol and choose the “Connect Wallet” option. You will need to scan the QR code and link up your wallet.
Step 2
Next, you will need to confirm the interaction and connect to the Anchor Protocol DApp. As mentioned previously, when setting up your wallet, make sure to write down your seed phrase and password properly. Your security information allows you to access the wallet from any browser on any device.
What is the ANC token?
Anchor Protocol’s governance token is the Anchor Token (ANC). The deposited tokens create governance polls. Those who have staked ANC can vote on these.
You can buy or sell ANC tokens to become involved in the governance process. The tokens improve reward conditions as well. Finally, ANC–UST pool includes the staked tokens.
Tokenomics
The total supply of ANC tokens is 1 billion. Incentives for Anchor Protocol borrowers for the next four years involve 40% of the reserved amount. As you can see in the chart above, the distribution of ANC goes as follows:
- Borrower incentives (40%)
- Investors (20%)
- Luna staking rewards (10%)
- Community fund (10%)
- Team (10%)
- Luna staking airdrop (5%)
- ANC LP (5%)
Should you buy ANC?
As with purchasing any other cryptocurrency, it is important to consider a number of factors. One of these is the volatility of the market. This is inherent to the crypto environment. Any forecast must take this into account. Naturally, the thought process of the coin’s success should also include the success of the project.
However, when it comes to buying ANC, the decision is simple. The price of ANC has dropped significantly since the Terra-Luna crash. It has yet to recover.
Should you use the Anchor Protocol?
When investing in any kind of crypto-related project, it is important to see both the short-term and long-term goals of your investment. However, the Anchor protocol was exploited after the launch of Luna 2.0. It is currently not operational.
The Terra-Luna crash occurred in May 2022 when the algorithmic stablecoin (UST) lost its peg to the US dollar, triggering a collapse in its sister cryptocurrency, Luna. This event caused a significant loss of value across the Terra ecosystem, severely impacting the Anchor Protocol
Anchor Protocol is a case study
Just about everyone involved in the cryptocurrency world is looking for ways to earn extra income and diversify their portfolio. The Anchor Protocol was a popular way to do both at one time.
Due to its dependence on the UST algorithmic stablecoin and the mechanism for supporting high yields, the protocol collapsed. Anchor Protocol should be a case study for future builders on how to implement sustainable yield-earning mechanisms properly.
Frequently asked questions
What is Anchor Protocol?
How do I get Anchor Protocol (ANC)?
How does the Anchor Protocol give you interest?
How do I deposit in Anchor protocol?
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