Crypto loans explained

Staying invested for the long term is often considered a sensible strategy, but what happens when a cryptocurrency investor unexpectedly needs access to funds? Taking money out of the markets can be a poor decision, especially during a bull run, while it can also trigger a tax liability. This article explores how crypto-backed loans provide an alternative source of liquidity for investors. 

DeFi loans

Decentralised finance (DeFi) lending protocols facilitate loans using smart contracts, programs running on blockchain technology that execute automatically when preconditions are met. Users deposit funds in smart contracts to create ‘lending pools’, which borrowers can draw on once they provide collateral. That collateral must be in the form of crypto, which is also locked in a smart contract. In most cases, loans must be overcollateralised, meaning the collateral is worth more than the amount borrowed.

To determine the size of the loan, the protocol sets a loan-to-value (LTV) ratio, which expresses the loan as a percentage of the collateral. An LTV of 66% means a borrower must post $150 of collateral to access $100 of crypto. Higher quality coins like bitcoin or ether raise the LTV.

The protocol sets interest rates based on supply and demand using an algorithm programmed into a smart contract. If demand for loans outstrips supply, the interest rate rises and vice versa. Alternatively, a lender’s governance community can set the rate.

A key benefit of borrowing against crypto holdings for investors is they can access liquidity without having to sell their holdings. For instance, flash loans, a DeFi innovation, are instantaneous (issued and repaid in a single transaction) and can enable borrowers to benefit from arbitrage opportunities, which involve buying and selling the same asset when it’s priced differently on two markets.    

The biggest risk to borrowers is the volatility of crypto. If the value of their collateral falls below the LTV threshold, the protocol may automatically liquidate the loan, leading to losses. Similarly, they may struggle to repay a loan if the value of the token they borrowed rises.

Aave ($33 billion as of July 2025) is the largest DeFi lender by total value locked, a metric used to measure the amount of funds deposited on a protocol by users. 

Other protocols are also gaining ground, such as Morpho, which enables on-chain lending. Several DeFi products—and even the centralized exchange Coinbase—are using this protocol for their loan offerings. 

CeFi loans 

While centralised finance (CeFi) lending protocols generally work in the same way as the DeFi version, there are some key differences.

One of the main benefits of CeFi protocols is their ease of use.They may offer an experience similar to that of traditional finance (TradFi) apps, unlike DeFi interfaces, which involve linking a digital wallet. Even though decentralisation is a core blockchain principle, this familiarity may encourage adoption.

However, CeFi protocols are vulnerable to a single point of failure. Celsius Network filed for bankruptcy in July 2022 after the collapse of Terra’s stablecoin and its sister token luna led to a bear market and a run on the platform. One borrower, crypto hedge fund Three Arrows Capital, defaulted on a $75 million loan.

One of the most popular CeFi lending protocols is Nexo, which launched in 2018. Nexo sets interest rates based on different loyalty-tiers.

TradFi loans   

Named after an Italian region with a rich banking history, Lombard loans allow borrowers to use their investment portfolio—including exchange-traded funds (ETFs)—as collateral.

Interest rates for Lombard loans are typically lower than standard bank loan rates because the collateral is highly liquid. Lenders usually charge a central bank base rate plus a margin, and the loan-to-value (LTV) ratio plays a crucial role in setting terms. More volatile assets, such as equities, require a larger cushion and result in a lower LTV.

The benefits and risks of Lombard loans closely mirror those of DeFi and CeFi lending. They can allow high-net-worth individuals to unlock liquidity without selling assets, but if the collateral’s value drops below the agreed LTV, the lender may issue a margin call or proceed with collateral liquidation.

Several institutions already accept crypto assets as collateral. For example, Swissquote and Sygnum Bank in Switzerland allow clients to post major cryptocurrencies like bitcoin and ether for Lombard credit lines. Notably, Sygnum also accepts certain crypto ETPs and ETFs as collateral, bridging the gap between digital assets and traditional wealth management.

Meanwhile, other traditional institutions, such as State Street, are exploring the future use of tokenised financial instruments, like blockchain-based bonds and money market funds, as part of the collateral mix.

In short

Crypto-backed loans offer investors a way to access liquidity without selling their digital assets—whether through decentralized protocols, centralized platforms, or traditional financial institutions. Each model comes with its own structure, benefits, and risks.

DeFi loans provide flexibility and innovative features, such as automated lending and flash loans, but require a level of technical understanding and carry the risk of smart contract failure and market volatility. CeFi platforms simplify the user experience by resembling traditional finance applications, though they introduce counterparty risk and rely on trust in the service provider. Lombard loans, offered by traditional banks, extend the concept to crypto by allowing investors to borrow against digital assets with relatively favorable rates—provided the collateral maintains its value.

The decision between these options often comes down to the investor’s profile: their comfort with technology, risk tolerance, and whether they value decentralization, regulation, or convenience. As the market develops, more hybrid models may emerge, and institutional players are likely to play a growing role in shaping lending practices around digital assets.