Share this on:
Flash loans have been seeing some extraordinary rise in their popularity over the last few years.
Initially, in order to execute a flash loan, there was some decent level of technical soundness that one was expected to have, and hence, they were essentially designed for developers/technicians.
However, slowly and gradually, the functioning of flash loans is becoming easier and code-free to allow less tech-savvy people to enjoy the benefits as well.
Flash loans have become absolutely popular in decentralized finance (Defi), being one of its most talked-about applications.
- What are flash loans?
- Key attributes of flash loans
- How does a flash loan work?
- What is a flash loan attack?
- Can flash loan attacks be prevented?
- Top 3 Flash loans use cases
- Can you still utilize flash loans if you are not a tech expert?
- Flash loans and Ethereum – what is the connection?
- Why should one use a flash loan?
- Vauld – the crypto borrowing and lending facilitator
What are flash loans?
A Flash loan is a loan you can take without any security or collateral but needs to be repaid in a single transaction. The loan is rolled back to its initial stage if the repayment does not happen in one transaction, leaving the loans with no opportunity cost and no risk as such.
It is powered by smart contract development and can also be known as a loan which is facilitated by crypto instruments.
Key attributes of flash loans
Flash loans are driven by a smart contract rule which is a blockchain software encompassing regulations to be followed in order to facilitate the flash loan transaction. It ensures that the loan does not get settled until and unless the borrower pays back the entire loan before the end of the transaction.
If the borrower does not repay the loan in a single transaction, the smart contract ends up reversing the transaction altogether.
This implies that the loan never happened, but that does not mean you can get away with it. When you do not repay the loan, the transaction does not take place in the first place.
This is the uniqueness of a smart contract, if you do not meet its conditions and pay back the loan instantly, the transaction is reversed, and money is handed back to the lender.
Quick and instant
Flash loans, as the name suggests, are pretty quick and instant in nature. The trades are made instantly, and the trade ends before the transaction is settled, which is usually for only a few seconds.
Flash loans do not require the borrower to put up security or collateral against the loan in order to acquire the loan. It is an unsecured loan, and instant of collateral, the borrower has to pay back the money instantly before the contract expiration.
How does a flash loan work?
A flash loan works on blockchain technology which is responsible for issuing and managing these loans.
A smart contract is the flash loan’s foundation, which is a computer program operating on the blockchain network itself. A smart contract ensures that there is an instant and automatic order execution af6er certain conditions are met.
As they work without the interference of any third party or fraudsters, they help in swapping real estate money and similar things in value in an instant.
However, flash loans are only responsible for receiving, using, and paying the loan back he specified guidelines. Smart contracts define these guidelines for all transactions based on flash loans. It helps in receiving, using, and repaying the flash loan within a single transaction. It also makes the transaction secure.
What is a flash loan attack?
A flash loan attack happens when the attacker builds an arbitrage opportunity for themselves by exploiting vulnerable smart contracts on the blockchain network.
This is done by artificially modifying the trading token’s relative value by flooding a contract with another one. This enables the attacker/hacker to steal massive chunks of funds in the form of cryptocurrency.
Several flash loans attacks took place in the year 2021, with extortion of amounts equal to and more than $45 million in a single hacking process.
Can flash loan attacks be prevented?
The short answer to this question is a yes. Let us see how one can prevent flash loan attacks from occurring, which leads to massive cryptocurrency loss.
You can protect yourself against flash loan attacks by using an external price oracle that protects you against slippage when a smart contract updates its price according to the demand and supply in the market.
It should also limit the price range on the basis of external values prevailing in the market. This will make it difficult for the hacker to generate slippage that ends up making an exploit beneficial for them.
Before launching, every smart contract should go through a security audit, helping the contract identify and remediate the flash loan attacks and similar vulnerabilities. Regular review of smart contract code should take place to search for vulnerabilities if any.
Top 3 Flash loans use cases
1. Collateral swapping
Traders can make use of flash loans to swap low-quality collateral backing the current loan owned by them with some other high-quality collateral.
2. Saving transactional costs
Transaction steps in a flash loan are aggregated into a single step, leading to a fall in the transaction fee for the trader. Hence, traders can use flash loans to buy and sell digital currency with lesser transactional fees.
3. Arbitrage trading
If you are a regular crypto trader, you must be aware that different exchanges across the globe have a significant price difference for the same cryptocurrency on their exchanges.
The price difference can range anywhere between 1 to 3 percent in the title, which is also a result of the difference in trading volume, time zones, and books.
The difference in the price of the same cryptocurrency enables traders to earn profits quickly through arbitrage trading.
Traders can use a flash loan to leverage and buy cryptocurrency at a low price from an exchange and sell it to another exchange that is offering a higher price for the same token. This helps them generate profit quickly and also allows them to pay back the loan easily.
Can you still utilize flash loans if you are not a tech expert?
Yes! You can. Even though flash loans were initially been developed for tech experts and software developers, the last year has focused heavily on making the concept easy enough to be sued by less tech-savvy people as well. Many platforms are making it easy for people to take advantage of flash loans by eliminating coding needs altogether.
Several parts of the smart contract code (based on Ethereum) can also be swapped out as a core feature of the change.
As a regular trader, this enables you to enjoy the benefits that come along with a flash loan without having much knowledge about coding and technical difficulties.
Flash loans and Ethereum – what is the connection?
The instant loan, the flash loan, needs to be repaid with one Ethereum transaction.
The quick speed and unique loan properties are channeled by Ethereum itself, aiming to expand the blockchain network into more extraordinary uses beyond just simple cryptocurrency transactions. Ethereum’s decentralized finance flash loans are one such experiment that is actually proving to be a massive hit amongst crypto traders.
Why should one use a flash loan?
The main advantage to traders of using a flash loan is to take an arbitrage advantage across different crypto exchanges. Let us understand this with an example.
If the price of BTC on ABC exchange is $2000, whereas the same BTC is priced at $2010 on XYZ exchange, the $10 difference is what you can profit from through flash loans.
As a trader or arbitrageur, you can benefit from the difference in the price of BTC on these two exchanges by utilizing their liquidity at its current point in time; if you have $2000, you can immediately make a profit of $10.
However, if you have acquired a flash loan, you can borrow $1,000,000 and arbitrage the difference in price by paying back $1,000,000 instantly and making a profit of $5,000.
By doing this, the market efficiency in Defi is enhanced as strong traders with valuable information yet limited capital is able to leave a more significant impact on the market by resolving the market inefficiencies and moving the prices of the cryptocurrencies closer on all exchanges altogether.
Vauld – the crypto borrowing and lending facilitator
Vauld is a crypto-platform that essentially does what we have talked about till now. It enables users to borrow, lend, trade and buy cryptocurrencies, all through the same platform.
It also allows traders to earn interest on their crypto, with weekly payouts, compounded interest rates, anytime withdrawal, and fixed-term deposits as its core functioning.
With Vauld, you can easily take a loan against your crypto token on a substantially low rate and easy payback process.
The platform offers a number of services that come with swift KYC approval, 0% fees, over $50 million liquidity, and much more. You can trade a number of currencies like EUR, GBP, INR, USD on Vauld.
You earn interest when you deposit coins like ETH and Bitcoin on Vauld. Just like a bank deposit. Refer to the image below to check the interest rates offered by Vauld.
Flash loans are definitely beneficial and profitable in the crypto-world and have been noticing some effective changes that make these loans more secure.
Even though there have been several attacks based on these loans earlier, several cryptocurrency platforms are working hard day in and night to make flash loans risk-free for each trader.