Automated Market Makers: The Next On-Chain Battle

A high level look into Uniswap v2, Balancer and Curve finance as they fight for liquidity in DeFi.

Hey all, apologies for missing last week's DeFi Weekly - corona's been quite a throw off from the usual schedule although I'm back now. This meme sums up quarantine perfectly imo:


So what's been going on, well I think two key developments which you've probably heard of but I'd like to unpack a little more: Uniswap v2 and Balancer's seed round.

The TLDR of Uniswap v2 was the support for ERC20 pairings, new infrastructure for price oracles and a key highlight being "path to sustainability" aka monetisation. I was probably 75% sure this would happen but still had some doubts. Anyways it's happened and is more like a switch, that when flipped activates a 5 basis point cut going directly to the Uniswap entity. As per the blog post, this would have generated $830k without any additional growth which I found pretty surprising. Increasingly we're seeing protocols on Ethereum generate somewhat decent revenue figures and growing by the day. Synthetix has generated close to $9m and MakerDAO $1.4m (massively on the low side).

One area which I think Uniswap v2 failed and will lose market share on is a flexible pricing structure. For example, Curve Finance charges 0.04% on stable coins where as Uniswap is still at 0.30% (+0.05% eventually). Having a structure where pool deployers can charge their own fee or even a dynamic fee schedule (early adopters get more compared to later adopters) would be a massively great feature to bootstrap liquidity. Maybe there's a technical limitation as to why this can't be done. Ultimately a trend we might see playing out is different AMMs for different kinds of tokens. Uniswap captures the core Ethereum community mindshare, although there's more groups outside that aren't as loyal and will be more price sensitive with other priorities.

Final point about the v2 blogpost, expected launch date = Q2. I mentioned this in a previous edition but it would be that the best time to launch a Uniswap competitor is right before the launch of a new version since v2 has to re-build liquidity from scratch...

Well this happened just a week ago:

Now that they have fresh new round in funding I'd be thinking that the launch of Balancer and Uniswap will be largely the same. Usually startups kill themselves rather than killing others however in this case both teams are most likely going after the same pool of liquidity that's already on Uniswap v1. Of course Uniswap will have a stronger pull on its existing users and brand trust, although if there's a sweeter deal around the corner with an equally good product then Balancer might be a pretty good option. Thinking out loud here, but I'd think Balancer could do a few things to pull liquidity over:

  • Offer close to 0% fees for the first X amount of liquidity that enters the platform

  • Paying LP fees out of pocket until they generate meaningful revenue

  • Providing initial liquidity to a pool that's in high demand (steal Curve Finance's market share in stable coins)

  • Lining up as many influencers as they can to shill them once they launch before Uniswap (this is more of a softer tactic and will have less effectiveness since Balancer's investors are separate to Uniswap).

Go to markets are becoming increasingly important in the DeFi space since existing products are starting to gain traction at a decent rate. One emerging trend we've seen over the past few weeks is with stable coins gaining traction as people look into buy into the market. To me Balancer's ideal go to market strategy would be focusing on a combination of all the tactics with the highest priority being going after Curve Finance's stable coin dominance although whether they do or don't is to be seen.

I'd love to provide more insight as to what makes Balancer unique although I don't know enough about the technicalities around the system, open offer to anyone at Balancer to walk me through and I can publish a DeFi Weekly article about it!

When looking at both Balancer and Uniswap, they both have similar setups as in they're both US-based teams that have gone down the traditional equity model for raising money (which makes sense given their circumstances). Where I think both of them will see a dark horse competitor emerge is one with a token that can use the token to intelligently incentive liquidity to deposit money inside the pool itself and capture fees into a token.

Why? Because there's a strong niche of investible tokens that people can speculate on. MKR, KNC and SNX are probably the top picks at the moment in the market given they have teams who are consistently executing. Compound is launching their token as well but will lack the same speculative pull due to the very limited distribution of the token to existing share holders and their unwillingness to lose control. I'm sure Balancer and Uniswap have an eventual model of becoming tokens although given their setups it's going to be a long path. Many people like the model of starting off with an equity company then gradually "decentralising", although I'm personally not convinced taking an easy path out at the start is beneficial in the long run. Tokens are only as good as their distribution and community. The larger your community, the more of an ecosystem you can build since everyone is invested in the token's success. MakerDAO is probably the gold standard when it comes to seeing this playbook being executed. Equity companies that transition to become token have a long list of hard and tedious things to do, such as:

  • Ensure seed investors can make "venture style returns" through sustained ownership (less incentive to sell tokens)

  • Provide sufficient mechanisms for investors to exert control over the protocol/team to do what they want

  • Be legally compliant for the sake of LPs and other equity share holders

  • Figure out a way to get a meaningful amount of tokens in the hands of more people without doing a token sale

It's not that these challenges are impossible to solve but will require time and experimentation to get right. Compound will be the first trail of this, UMA will also provide an example for teams to look up to. Also it's to be seen if product network effects translate into token network effects. My best prediction for these tokens will be that they'll exist but with very poor liquidity and in the hands of SV elites. Exchanges and market makers won't be excited to deal with the token and neither will retail. Sure that might sound good but at the end of the day, it's retail speculators that make your token valuable and liquid. Without them your tokens aren't really worth much :sadface.


Anyways, that's a wrap for this edition. I'm cheering from the frontlines for both teams as they ship in this time. I don't have any vested interest in any of them doing well so you should hear pretty balanced opinions on both sides.

Once again let me know if there's anything you strongly disagree/agree with in this piece!

Peace.

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