What Is Crypto Lending? What Crypto Exchanges and  Businesses Need To Know

As the gap between banks and crypto narrows and cryptocurrency continues to shape fintech firms, crypto lending has emerged as one of the most innovative and beneficial solutions for market participants. 

This service not only benefits exchanges, banking institutions, and fintechs by strengthening their competitive advantage and attracting a broader customer base, but also crypto owners by opening the door to yield generation. Therefore, it’s no doubt a valuable addition to your offerings. 

However, facilitating crypto lending can be challenging — especially if you’re unfamiliar with the intricacies involved. 

Here, we explore crypto lending, looking at what it entails, why it’s beneficial, and what considerations to make before integrating it into your list of services. 

What Is Crypto Lending?

Crypto lending is a financial service that involves borrowing or lending cryptocurrencies in exchange for a fee. As with traditional lending, lenders earn interest payments, commonly known as crypto dividends. 

However, unlike traditional lending, crypto lending occurs over blockchain technology and is facilitated and managed by smart contracts (depending on whether the platform used is centralized or decentralized). This minimizes the number of intermediaries in the lending process. 

Crypto lending plays a crucial role in the digital finance ecosystem by allowing borrowers to increase their capital without selling their holdings. It also helps investors (lenders) earn interest on idle assets, essentially creating a mutually beneficial system. 

How Does Crypto Lending Work?

The lending process may vary depending on borrowers’ and lenders’ chosen platforms. However, here’s a simple breakdown of how it usually happens:

• Lenders deposit their crypto assets into a lending platform. It could be a centralized platform or a decentralized one. Centralized platforms operate like traditional banks, serving as intermediaries between lenders and borrowers. In contrast, decentralized platforms use smart contracts, enabling peer-to-peer transactions. 
• Borrowers request loan amounts. Unlike with traditional loans, they don’t need to fill out extensive paperwork. 
• The platform calculates how much collateral borrowers need to deposit. This is typically dependent on their desired loan amounts and the platform’s loan-to-value (LTV) ratio. The collateral serves as security, helping minimize lenders’ risk. 
• The platform holds the collateral and disburses the loan. Borrowers can only retrieve their collateral if they complete loan repayment within the agreed-upon period. 
• Lenders earn interest. This typically happens for as long as their assets remain in lending protocols. 

Key Benefits of Offering Crypto Lending

Crypto lending is a popular service in the digital asset market because it helps businesses:

Meet Rising Demand for Yield-Generating Products

Modern investors want more than just secure deposits for their assets; they also want to earn passive income from their holdings. Crypto lending allows them to do just that by providing interest on borrowed assets. 

Offering this service could make your crypto firm more appealing to a broader range of investors. 

Unlock New Revenue Streams Through Lending Fees and Interest Spreads

Crypto lending presents new and predictable revenue-generating opportunities, which can enhance your firm’s bottom line. 

You could charge loan origination fees when processing loans, earn a margin between what you pay lenders as interest and what you charge borrowers (interest rate spread), or even charge liquidation penalties whenever borrowers default on their repayments. 

These avenues could come in handy during periods of low trading activity when your transaction fee earnings decrease. 

Boost Customer Retention With Value-Added Financial Services

As more businesses join the cryptocurrency industry, the competition for investors’ and traders’ attention increases. To retain your customers, you need to do more than facilitate trading. 

That’s where crypto lending comes into play. It adds meaningful utility by allowing traders to borrow against their assets and helping lenders earn from “idle” assets. 

This could direct more traffic to your crypto lending platform and encourage investors to hold their assets for longer periods in your lending protocol. 

Drive User Engagement and Increase Platform Stickiness

Crypto lending can encourage more frequent platform logins and engagements. Investors may want to compare interest rates across different crypto assets, monitor their crypto portfolios, or learn more about your platform’s lending mechanisms, potentially resulting in increased “stickiness.”

This could, in turn, unlock cross-selling and up-selling opportunities for your crypto firm. For example, you could market a new service offering or encourage users to upgrade their subscriptions to unlock valuable insights. 

Stand Out With a Differentiated Offering in a Competitive Market

With many crypto firms competing for the same customers’ attention, offering standard services won’t cut it. 

Crypto lending can be a valuable differentiator, transforming your exchange from a platform that only facilitates asset buying and selling to one that allows investors to earn interest on their deposits. This could boost your visibility in the increasingly competitive crypto space. 

Considerations for Crypto Lending

While integrating crypto lending into your services could attract more users and expand your firm’s revenue opportunities, it also poses various operational, financial, and regulatory issues. Here’s a look at these risks and how to handle them:

Counterparty Risk and Borrower Default

Counterparty and default risks occur when borrowers fail to repay their loans, resulting in losses for lenders. They can affect your platform’s reputation, causing investors to withdraw their holdings. 

The good news, however, is that you can mitigate them by:

• Running borrowers’ credit checks to flag past defaults before extending crypto loans. 
• Requiring over-collateralization (asking for more collateral than the amount borrowed)  to protect investors from market volatility.
• Using automated liquidation mechanisms for quick reactions to collateral drops. 
• Seeking insurance coverage to help cover defaults. 

Liquidity Management Challenges

As with standard services like trading, successful crypto lending hinges on sufficient liquidity. After all, you must be able to support lender withdrawals and fund new borrower requests without causing market disruptions. 

You can maintain liquidity by providing incentives for more investors to deposit their assets, tracking your liquidity pool’s health in real time and adjusting your practices as needed, and using liquidity solutions like automated market makers. 

Regulatory Compliance

While crypto lending regulations are still in a gray area, many jurisdictions, including the U.S., are actively working toward clear frameworks. Failure to comply with these frameworks and any other existing regulations could pose legal risks, such as lawsuits, affecting your firm’s reputation. 

To promote compliance, work with experienced legal professionals in your jurisdiction. Also, keep a close eye on regulatory updates and adjust your policies and operations accordingly. 

How To Implement Crypto Lending 

There are two main ways to integrate crypto lending into your services: develop crypto banking software yourself or partner with existing protocols or third-party infrastructure providers, like AlphaPoint. 

The “internal development” route gives you total control over your product design and allows you to retain 100% of your crypto lending revenue. However, it’s time- and capital-intensive, as it requires you to build everything from scratch — from a yield platform to your wallet solution. 

On the other hand, the “partner” route may limit your control over core features and require you to share your earnings (to cover platform subscription costs). However, it’s quicker and more cost-effective. Further, depending on your partner, you could have access to liquidity solutions, integrated compliance tools, and built-in risk management features. 

If you’re looking for a faster time-to-market without breaking the bank, partnering with infrastructure providers may be the way to go. 

Offer Crypto Lending at Your Exchange With AlphaPoint

Crypto lending can be a valuable addition to your services. It helps meet modern investors’ demand for yield-generating products and differentiates your firm from the many already offering crypto trading or payment services, potentially attracting new users and boosting retention. 

As more retail and institutional investors show interest in the crypto market, this innovative service could increase your earnings. 

With AlphaPoint, you can get into the crypto lending space relatively quickly. We offer turnkey crypto infrastructure and white label solutions, including yield platform software, wallet and custody software, and liquidity solutions, helping you go to market more quickly than you would on your own. 

Ready to offer crypto lending? Schedule a demo with AlphaPoint to learn how we can help!