Any market, from the traditional financial market to the crypto space, contains potential risks. Because of this factor, to ensure steady-state finance, the insurance industry has been born and developed for a long time.
Unlike traditional finance (insurance has gained a foothold), in the crypto space, insurance is still undervalued, disproportionate to its potential. However, it is imperative to have a protection mechanism from risks and threats in the face of potential risks. Are we underestimating decentralized insurance in crypto?
So What Is DeFi Insurance?
Much like traditional insurance policies, DeFi coverage protects customers from loss from theft to smart contract issues in return for a fee. The most noticeable difference between the two kinds of insurance is that conventional insurance might be issued and regulated by a multinational insurer. In contrast, a DeFi insurance policy is controlled and orchestrated by its community of users.
In short, decentralized insurance is a type of insurance where insurance contributions and insurance benefits take place without going through an insurance company or an intermediary.
Regarding the insurance market in general and the insurance industry in the blockchain/crypto sector in particular, the total insurance capacity in the financial industry was at 1 trillion USD in 2020, and the insurance industry capacity in the blockchain was only 1-2 billion dollars, which was less than two thousandths.
The figures for insurance services show that the insurance sector in the crypto space is still very new and extremely potent. When it comes to DeFi, people usually ignore the existence of insurance; however, it plays a key role in DeFi these days.
The growth rate of the insurance sector in the financial industry is on an increasing trend; it is estimated that the growth rate in 2021 will be about 20% more than in 2020 (statistics of US Cyber Insurance).
Along with that, the volume of financial movement in the insurance sector for blockchain/crypto is only 1% in 2020 and is increasing exponentially in the investment industry of the financial sector (statistics of US Cyber Insurance).
Meanwhile, too many projects were attacked, leading to their organization not being able to recover in development. For example, BZX was attacked and lost $1 million, Kucoin exchange lost $150 million, Origin Protocol was damaged, or $7 million or recent consecutive flash loan attacks on Binance Smart Chain…
As a result, insurance in the blockchain field is not only about providing reimbursement for damage but also providing and implementing a secure platform to limit the risk of damage to their customers.
Insurance empowers people to take risks by sharing the expense of unexpected occurrences. We would be far more cautious if everyone were exposed to all of life’s dangers. We are confident in deploying cash in emerging financial markets since insurance coverage is readily available.
Let’s have a look at the correlation between risk and yield. It is clear that risk and yield are intimately connected — greater yields indicate more implicit risk. Obviously, this is the case for almost all financial markets, especially a new market like DeFi. While DeFi is not yet a mature market, the high returns are a signal of increased latent risk.
In this situation, insurance acts as a mechanism to protect investors, traders, and users from risks. To understand the importance and potential of decentralized insurance, we must understand the risks users might face when participating in DeFi fields.
To classify risks, we can divide them into three categories:
- Technical Risks: risks when smart contracts are hacked, protocol code errors, etc.
- Liquidity Risks: this occurs when DeFi products lose liquidity.
- Admin Key Risks: The risk associated with the private keys of the protocol being compromised.
These types of risks can happen at any time. If they happen, they will directly affect the investors as well as the operation of the entire protocol. On a beautiful day, a certain protocol is attacked by hackers due to untested code, or any pool is withdrawn from liquidity, etc., where does that protocol get the cost to compensate and fix? And how about the consequences? It is at this point that the role of decentralized insurance will become very clear.
Decentralized insurance plays an important role in protecting users of blockchain platforms from potential risks that can occur at any time.
To protect users from the risks mentioned above, there will be different types of decentralized insurance. These include:
Cryptocurrency wallets are an integral part of users in the crypto space. It’s where users store their assets. Therefore, the need for a type of crypto wallet insurance is great.
Many companies have come up with insurance to cover the risk of theft of crypto wallets in case of hackers’ attacks. This is a great and potential use case of decentralized insurance.
The crypto lending and borrowing market and crypto-derivative asset models are going on in full swing in the DeFi space. The total key value in lending-borrowing platforms is always at the top. Therefore, this is a lucrative bait that hackers always target.
So collateral protection insurance provides borrowers and lenders with a sense of security from crypto lending platforms, which is an important step in driving blockchain adoption.
In order to protect users of blockchain platforms against the risks of vulnerabilities in smart contracts, smart contract insurance was born. This type of insurance will cover the loss if the specified smart contract address is hacked and used for manipulation.
Decentralized insurance services provide complete protection of DeFi deposits, hedging against cryptocurrency volatility as well as providing security against the risk of theft and attack to the e-wallet. It ensures users against any possible DeFi risks, protecting technical and financial risks, thus building a sense of security among investors.
In addition to that, decentralized insurance platforms make the entire deposit, claim, and processing and payment process extremely secure, reliable, and transparent.
With the potential to unlock a trillion-dollar insurance industry, decentralized insurance has a promising future. Its transparency offers significant improvements over traditional insurers.
As the cryptocurrency sector continues to grow, decentralized insurance will continue to expand its product range. Together, the capabilities DeFi offers create an attractive opportunity to address developing markets. But now, with the rise of DeFi, smart contract insurance is likely to become more attractive to crypto investors as DeFi applications continue to accumulate value in the underlying smart contracts.