Experienced market maker evaluation Uniswap V3: The core advantage lies in providing a composability strategy


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The development of DeFi needs to absorb the composability advantages of traditional finance and attract more entrants. This is exactly what Uniswap V3 is doing.

For a more in-depth understanding of Uniswap V3, please read: ” Selected Links | Understanding Uniswap V3: A New Era of AMM Liquidity

Written by Byte and Benedict Zhou, the authors are the co-founder of DeepQuant and the developer of DeepGo DeFi, the crypto-asset market maker, respectively

Uniswap V3 introduces new features: whether it is a new AMM mechanism with a “price scale” or a customized “flexible fee”, it gives liquidity providers more strategic flexibility. As a quantitative researcher who has been immersed in the strategy of crypto asset market maker for many years, the author discovered a new era of DeFi in the mediocrity of Uniswap V3.


  1. If you only look at it from a micro perspective, especially for traditional traders, V3’s granularization concept is unremarkable, and its trading method is closer to a centralized exchange. But in the long run, V3 brings more customization and composability to investors, greatly expanding the boundaries of DeFi investment strategies.
  2. The significance of V3 is to provide more customizable strategies to be compatible with more investment needs, and the NFT-based LP Token has become a value unit that matches small investment demanders and professional team suppliers, and realizes the delivery of the Internet of value. The greatest innovation in DeFi today.
  3. There is an impossible triangle problem in investment in return, risk, and scale. V3 improves the efficiency of capital use to increase returns, but also amplifies risks. Therefore, it is particularly critical to provide Uniswap V3 with external feeding data and realize risk pricing.
  4. The tightening of global supervision and heavy pressure on CEX is the key node for the DEX platform to grab the market. DeFi’s realization of value transfer on the decentralized blockchain is the general trend, but it also requires the right time and place to truly break out. The V3 ecosystem is currently in a gestation period, and more innovative projects will appear to be compatible with it in the near future, such as new liquidity machine gun pools, customized strategies, etc.

The imagination of NFT-based LP Token

In Uniswap V2, after the user adds liquidity, Uniswap will return an ERC20 token to the user, which is the LP Token. This type of LP Token represents the ownership of the liquidity provided by the liquidity provider. When users want to redeem liquidity, they only need to destroy their LP Token to get the share of the corresponding token in the fund pool.

Since Uniswap V2 adopts the overall fund pool model, LP Token is a standard ERC20 token. But in V3, each LP creates liquidity based on a different price range, so the liquidity provided uses ERC721 tokens as warrants. Uniswap will also issue customized NFT cards for each liquidity provider.

This simple NFT card represents a value unit, carrying the time cost, risk cost, and strategic value of the liquidity provider. In the development of the Internet, the standardization of value units has laid the cornerstone of various Internet platforms, such as Amazon’s product links and Instagram pictures. Nowadays, the blockchain world is just like the Internet in 2003-2004. It is on the eve of an explosion. The improvement of value units will allow users to standardize and grow rapidly, and eventually form a network scale effect.

The essence of NFT-based LP Token is asset securitization. As a financial tool, asset securitization is designed to improve the allocation of resources and increase the efficiency of capital operation. In traditional finance, the opacity of asset securitization has led to the hidden danger of out-of-control risks, which has been criticized. But in a decentralized world, the trusted value of the blockchain greatly eliminates such concerns.

Decentralized liquidity machine gun pool

Ordinary users cannot respond quickly under Uniswap V3’s liquidity plan, and it is even more difficult to grasp a reasonable price range. The oligopoly effect is obvious, and the professional quantitative market maker team has more advantages. The granulation of Uniswap V3 has led to more customized strategies, thus creating a liquid machine gun pool market.

In the short term, the decentralized liquidity machine gun pool project has great value to the investment demand side, and in the long term it has positive feedback incentive benefits to the asset supplier. The core lies in the data algorithm between supply and demand. Data feedback helps to form a benign curatorial market. High-quality and robust strategies are sorted and screened, and high-risk and low-return strategies are quickly filtered and eliminated, so that efficient resource allocation can be achieved.

Under the synergy effect of the innovative machine gun pool project, Uniswap V3 will be constructed into a more stable derivatives system to buffer the risk of malicious smashing by the project party and further protect the interests of investors. The underlying asset corresponding to LP Token is a combination of basic token and project token. This means that in the event of drastic fluctuations in market conditions, the rate of change in the value of pledges will be reduced, thereby achieving a liquidation buffer.

Impossible triangle

Uniswap V3 introduces mechanisms such as “centralized liquidity”, “customized rate”, “range order”, “non-homogeneous position”, etc., all to improve capital efficiency. While helping liquidity providers avoid impermanent losses as much as possible and create higher returns, risks are inevitably increased. In the classic law of investment transactions, it is impossible to increase returns, reduce risks, and expand scale. It is difficult to achieve the three at the same time.

Experienced market maker evaluation Uniswap V3: the core advantage lies in providing composability strategies

In Uniswap V3, the liquidity provider’s rate of return has increased significantly, but the capital risk has increased significantly. Especially under extreme market conditions, when the price of a certain type of asset in a trading pair soars and falls, and the price exceeds the price range set by the liquidity provider, the liquidity in the range will be drained by market arbitrageurs, and risk control becomes the liquidity provider Difficult problem.

When Uniswap V3’s risk cannot be effectively controlled based on its own mechanism, liquidity providers can only rely on external risk data feeding. At this time, NFT-based LP Token will play an important role as a value unit that bridges the world beyond DEX.

As an innovative derivative, LP Token also needs to be used efficiently. There is no lack of a large number of liquidity providers in the DeFi field. After they pledge trading pairs in the liquidity pool, they can only obtain unilateral benefits of liquidity mining, and the funds are not fully utilized. As a certificate of capital equity, LP Token can not only be circulated in the market, but also can be pledged to achieve a higher capital utilization rate.

Uniswap V3+CDO mode

CDO is called Collateralized DEX Offering, developed by the DeepGo team. Users can achieve continuous financing through the risk classification of pledged bids. After Uniswap V3 provides initial liquidity, the market maker locks the LP Token as a pledge in the CDO agreement to continue to obtain liquidity buying.

When Uniswap users provide liquidity in V3 and set a larger interval, the fluctuation range of the value of the liquidity subject based on the functional currency is smaller. The following figure simulates the curve of the change of the overall value of the target with the token price after the user pledges the same value of the target in the V2 and V3 versions. Obviously, the value curve in the V3 version is smoother.

Experienced market maker evaluation Uniswap V3: the core advantage lies in providing composability strategies

If the CDO supplier pledges the LP Token in the Uniswap V3 version, under the extreme market conditions, the anti-risk ability of the pledge will be significantly improved, which will also make the booster pool system more robust: when project tokens are rising sharply, do a good job Reasonable risk warning; in the event of a sharp drop in tokens, take a good risk buffer. The combination of Uniswap V3 and CDO will ultimately enable high-quality assets to rise for a long time, and non-performing assets will gradually decline and be liquidated.

More precise risk pricing

In the CDO model, in order to achieve more precise risk pricing, risks need to be classified to form a fixed income tiered fund. In addition to the initiator (IP) of the project, there are also two types of main actors involved, which are divided into important participants (GP) and fixed income (LP). These two roles will provide continuous capital input for the project. As the direct investor of the project, GP will convert all the principal into project tokens, and LP’s funds will be used as leverage of GP to help the project achieve better results. Great value growth.

In the CDO mode, IP pledges of high-quality assets (Uniswap V3 LP Token) are allowed, which adds a layer of protection to GPs and encourages a large inflow of GP funds. Every inflow of GP funds will be injected into Vault to store LP’s risk reserves and profits. With the increase in the volume of Vault funds, LP’s investment willingness has been gradually enlarged.
as follows:

LP w ∝ Vault ∝ IP col * GP turnover * IP ltv
GP turnover ∝ GP w
among them:

  • IP col is the pledge of IP
  • IP ltv is the current pledge rate of IP
  • GP turnover is the turnover rate of GP
  • GP w is the investment willingness of GP
  • LP w is the investment willingness of LP
  • Vault as reserve

It can be seen that through effective signal transmission, the underlying assets with lower IP pledge volatility effectively drive the capital capacity of LP. As the most important part of the market feedback loop, LP funds will exert a positive multiplier effect.

If the project is a non-performing asset, because GP participants have replaced their base currency with project tokens, the volatility rate of the GP leverage target will be much higher than that of the IP pledge. At this time, the GP may fall due to the price of the project’s assets. And was the first to be cleared out. The remaining GPs are more willing to enjoy the pledge after the IP is cleared, thereby reducing the turnover rate. This time directly led to the shrinking of Vault increments, which greatly reduced the LP’s investment willingness, which in turn caused inferior projects to be gradually cleared.

LP w ∝ IP col * GP turnover
GP turnover ↓ ⇒ LP w

This type of transmission mechanism not only enables the CDO model to function well and becomes a scavenger of non-performing assets, it can also transmit a large amount of effective market information as external feeding data for Uniswap V3 risk pricing and provide decision-making feedback to investors and liquidity providers.

to sum up

Uniswap V3 looks normal after the upgrade, but it provides a lot of innovative foundations for DeFi applications. Now that CEX is facing internal and external troubles, it is the critical moment for the rise of DEX. How does DeFi lead the next wave of bull market? The core is to absorb the composability advantages of traditional finance, create more easy-to-use and efficient strategic products, and achieve the implementation of inclusive finance, thereby attracting more entrants.
According to the author, Uniswap did not originally have a moat, but as soon as V3 came out, it provided more composability solutions. In the world of open finance, the alpha benefits brought by V3 will derive many innovative products, thereby forming a real head effect, which is its important strategic layout. However, DeFi is an inclusive finance rather than an oligarchic game. How can small investors pass a certain agreement and enjoy the alpha benefits that scientists or giant whales can only obtain? It is our current focus to explore the direction.

Source link: deepgo-official.medium.com

Disclaimer: As a blockchain information platform, the articles published on this site only represent the author’s personal views, and have nothing to do with the position of ChainNews. The information, opinions, etc. in the article are for reference only, and are not intended as or regarded as actual investment advice.

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