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Last updated: Oct 23, 2023
Compound Finance is one of the veteran projects on the global DeFi market and one of the largest dApps on Ethereum by TVL. It was launched in September 2018 as an interest rate protocol that allows users to deposit assets into liquidity pools, for others to borrow, while receiving interest.
Compound also became one of the first DeFi protocols to switch to a fully decentralized governance model in April 2020 and has been controlled by the community of COMP token holders ever since. In a way, it was the COMP mining program, the newly introduced Compound native token at the time, that started the DeFi summer in May 2020.
In April 2021, Compound made the news by becoming the first DeFi project to get over $10 billion in TVL.
Compound allows users and decentralized applications to deposit cryptocurrencies into corresponding pools to earn compounding interest over time. These pools are open for borrowers who can get access to assets they don’t own by providing collateral.
Active pools on Compound contain assets like ETH, DAI, USDC, WBTC, USDT, BAT, UNI, ZRX, TUSD, COMP, LINK, AAVE, etc.
After depositing assets to any of the pools, the user receives a cToken version of that asset, e.g. cDAI, cETH, cUSDC. These are ERC-20 tokens pegged in price to the underlying assets that can be transferred freely. Each time users withdraw their Compound deposit, cTokens disappear from their wallet.
Interest rates for lending and borrowing on Compound are adjusted algorithmically based on supply and demand. Rates also differ from pool to pool and depend on the proportion of borrowed assets, which is called utilization ratio, on Compound.
As on any other lending platform, there’s always a risk of liquidation for borrowers that occurs in situations when their collateral asset loses value significantly or when a borrowed asset surges in price.
From the point of architecture, the main feature of Compound protocol is its risk management layer called the Comptroller. It determines how much collateral a user is required to maintain, and triggers a liquidation event if needed. The Comptroller issues COMP tokens each block to distribute assets to users who have been interacting with the protocol. The rules under which the Comptroller operates are set by the community of COMP holders via the governance system of the project.
According to the Compound governance model, proposals may be created by any address that holds or has at least 25,000 COMP delegated to it. By locking 100 COMP, users may create an Autonomous proposal which becomes a governance proposal if delegated 25,000 COMP from other Compound users.
Each proposal is subjected to a three-day voting period. During this period, any address holding COMP can vote for or against the proposal. There’s a minimum of 400,000 approval votes needed to implement the proposal which is queued in Timelock for two days after voting is complete.
Before proceeding with the Compound app, it is first required to connect a wallet and have some ETH to pay for the gas fees. Compound wallet support includes Metamask, Ledger, WalletConnect, Coinbase Wallet, and Tally.
Once a wallet is connected, the value of a user's supply and borrow balance is displayed at the upper part of the screen. The lower part is divided into two sections, where one is Supply Market and the other is Borrow Market. Each market shows the list of assets that can be supplied or borrowed. The far upper corner contains the Dashboard icon, which enables users to manage their lending and borrowing, and the Vote icon switches to the governance platform of Compound.
To supply assets, the user needs to click on the selected asset from the list. The pop-up window will show the APY (amount of token per year) and the Distribution APY (amount of COMP distributed per year) to be earned. Then the user needs to enter the desired amount of tokens to be deposited and confirm the transaction by clicking ‘Supply’ and paying the gas fee.
Users may also borrow any supported asset, using their Supply balance as Collateral. If they wish to borrow assets, it is required to click on the selected assets from the Borrow market. A pop-up window will show the Borrow APY the users will have to pay, and the Distribution APY to be earned by borrowing the asset. Then the users need to enter the amount of assets to be borrowed. The maximum value of assets that can be borrowed will be displayed in the Borrow limit line. As a final step, users need to click ‘Borrow’ to confirm the transaction.
COMP is an ERC-20 token that is a native asset of the Compound protocol. Its main purpose is to incentivize users participating in the protocol’s governance.
COMP holders can suggest changes to the protocol and implement them via a vote with no need to rely in any way on the Compound developers’ team. COMP holders can also delegate their voting rights to any other address by choice.
COMP tokens are distributed to Compound users each time they interact with the protocol. There’s a maximum supply of 10 million COMP tokens with 42% of that supply to be distributed among the protocol’s users in a four-year span starting from June 2020.
Robert Leshner is one of the co-founders of Compound and is now the CEO of Compound Labs. He is also the author of Compound’s whitepaper, published in 2019. The second co-founder Geoffrey Hayes is also a serial entrepreneur, who previously founded an e-commerce firm named Britches. He currently serves as the CTO at Compound Labs.
Compound was long considered to be one of the most trustworthy and respectable protocols in DeFi. In September 2021, after being proposed and approved by the community, Compound Labs deployed an upgrade to the Comptroller module that was supposed to result in a slight change to the COMP distribution model. However, due to a bug that went unnoticed by developers and auditors, the protocol lost over $160 million in an unfair COMP distribution. A week passed before the team was able to deploy a fix, due to the complexity of the governance mechanism, especially given the necessary timelock.
Compound Finance runs a Bug bounty program with the reward of up to $150,000.
Compound is backed by notable investors such as Andreessen Horowitz, Bain Capital Ventures, Coinbase, Paradigm, Polychain Capital, and Dragonfly Capital. The project raised over $33 million in funding in two investment rounds held in 2018 and 2019.
Upon its launch, the protocol built strategic partnerships with a number of financial institutions, some of which have chosen to remain confidential.
Through the years Compound has grown its partnerbase and overall ecosystem significantly. The protocol has collaborated with Aave, Curve, and MakerDAO alongside many other dApps that use Compound to their advantage. Some of them are listed on the protocol website.
Since Compound protocol is governed by the community, any upcoming changes and improvements are preceded by a discussion and a vote on the Compound governance panel.
As for Compound Labs, there’s a work in progress on a Gateway project which is a distributed ledger capable of transferring value and liquidity between various chains thus creating a cross-chain interest rate market.
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