Block Research was commissioned by Orca to create a “DeFi Pooled Liquidity Supply: Centralized Liquidity”. To access the full report in PDF format, please fill out the form below.
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This report provides insights into the centralized pool liquidity supply of automated market makers (AMMs). AMM has revolutionized the decentralized exchange (DEX) and has proved to be a major use case for DeFi to the extent that it is comparable to the liquidity of the centralized exchange (CEX). After Uniswap v3 introduced centralized liquidity in 2021, it quickly gained market share among DEX. Concentrated liquidity can be much more capital efficient than a liquid supply in an infinite price range. However, on the flip side, there is an increased risk of permanent loss for liquidity providers.
Centralized liquidity providers are given more freedom to set the location of their pools. This leads to several different strategic settings, some of which can be limited to sophisticated investors or active liquidity management protocols. This seems to apply, for example, to the liquidity supply of volatile token pairs that may require frequent rebalancing to increase profitability. The automated liquidity management protocol has the advantage of not only lowering transaction costs as the fund grows, but also claiming to provide more control over retail liquidity providers. However, it remains to be seen whether their total returns, including protocol fees, perpetual losses, and “combined” contract risk, provide monetary value and adequately indemnify liquidity providers.
The empirical results of a centralized liquidity supply have been quite disappointing so far. Most studies have consistently not surpassed simple buy-and-hold strategies. This is mainly caused by permanent losses. One possible exception is token pairs with a low risk of permanent loss, such as stablecoin. So far, the main benefit from the higher capital efficiency of centralized liquidity seems to come to swappers with far less trading divergence, even when compared to centralized exchanges. In the future, the situation may be remedied through more efficient strategies for liquidity supply or by reducing liquidity supply until the risks taken by liquidity providers are fully rewarded. I have.
© 2022 The Block Crypto, Inc. All rights reserved. This article is provided for informational purposes only. It is not intended to be provided or used as legal, tax, investment, financial, or other advice.
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