How to evaluate DeFi yield strategy risks
To evaluate a DeFi yield strategy, check the contract, the yield source, liquidity and exit terms before you deposit, then revoke token approvals.
Vahe HakobyanEditor-in-chief
Updated Oct 6, 20263 min readFact-checked
On this page
- An audit is a snapshot, not a guarantee.
- Yield comes from fees, interest, or emissions.
- Check liquidity and lock-ups first.
- Record trades and revoke approvals after you exit.
A DeFi yield strategy puts your tokens into a smart contract that pays you for using them. The contract, the yield source, and the exit terms are public.
What should you check before you start?
Read the contract on a block explorer. Ethereum, which launched in 2015, runs smart contracts anyone can inspect. Look for a public audit, but treat it as a snapshot of the code on one date, then find who holds the admin keys and trace the yield to fees, interest, or emissions.
How do you evaluate the risks step by step?
Once you know the contract and the yield source, test the exit before you enter. Liquidity can dry up, lock-ups can delay you, and a lending market can sell your collateral.
- 1Check pool liquiditySee how much of each token sits in the pool and how a large withdrawal moves the price.
- 2Read the withdrawal rulesLook for daily caps, cooldowns, or lock-up periods that delay your exit.
- 3Review collateral rulesIf you borrow, note which tokens count as collateral and the borrowing limit.
- 4Trace liquidation and oraclesFind the price at which your collateral is sold and which price feed the protocol reads. A single feed can cause wrongful liquidations.
- 5Spot rug pulls and fakesType the contract address into a block explorer yourself, not through a link. Phishing pages copy real ones, and anonymous teams, unaudited code, or admin keys that can drain a pool are warning signs.
What should you do after you deposit?
Keep a record of every transaction. The IRS treats cryptocurrency as property, so the yield you receive is usually income. Revoke the token approvals you gave the protocol after you withdraw.
Frequently asked questions
It is the gap between holding your two tokens and putting them in a pool when their price ratio changes. The loss becomes permanent when you withdraw.
In a simple deposit, you can usually lose your deposit but not more. The CFTC warns that borrowing can cost you more than you put in.
Usually yes. The IRS treats cryptocurrency as property, so the yield you receive is generally income.
