Uniswap has been surprising people from the V1 iteration to the current V3. Uniswap V3 updates include granularity control for aggregated liquidity, range orders, multi-level rates, advanced prophecy machines, and more, giving users more autonomy. Among them, only one item allows users to customize liquidity ranges for liquidity aggregation, range orders, and limit orders.
In Uniswap V2, all liquidity is allocated in the interval from 0 to positive infinity according to the constant product curve k=x*y, but the prices on both sides of the interval are hard to reach, so a large amount of funds are idle. For some specific trading pairs, price fluctuations may be limited to a very small range, and it would be extremely wasteful to still allocate funds throughout the interval. Many projects have optimized on this basis and have also been successful, such as Curve, which chose to optimize the joint curve so that liquidity is concentrated within a specific interval for trading similar assets such as stablecoins.
In the current update to Uniswap V3, the concept of “Tick” was introduced, which makes Uniswap increasingly similar to traditional order book trading.
The Tick is not unique to Uniswap, as it is used in traditional futures trading to refer to the minimum fluctuation of a contract’s price. The liquidity of LPs is distributed to each Tick within the interval, and these data are reflected in the NFT generated after the liquidity is provided. Transaction fees are calculated separately within each Tick and allocated to users according to each user’s liquidity share on that Tick.
When the market price fluctuates due to a single transaction, it may cross several Ticks, and the original liquidity, after being depleted, becomes liquidity in the opposite direction. For example, for a USDT/WETH pair with 0.3% commission, the Tick corresponding to the ETH price in the range of 1204.8 to 3904.9 is -205380 ~ -193620. When the price corresponding to Tick -205380 is broken, the liquidity of the buy order above that Tick will become the liquidity of the sell order.
By customizing the liquidity range and rates, Uniswap V3 will multiply the utilization of funds.
Higher Liquidity Utilization
Comparing data from Uniswap V3 and Uniswap V2, Uniswap V3 is currently capturing more volume with lower liquidity than V2. Taking the May 28 data as an example, as shown in the chart below, Uniswap V3 has only $1.58 billion in locked positions, but $923 million in volume over the past 24 hours. Uniswap V2, on the other hand, had a locked position of $5.72 billion and only $741 million in volume over the last 24 hours.
Again, Uniswap V3’s numbers shine when compared side-by-side with other exchanges.
SushiSwap on Ether has a locked position of $3.32 billion and 24-hour volume of $142 million.
PancakeSwap on BSC has a locked position of $8.2 billion and 24-hour volume of $920 million.
QuickSwap on Polygon had $940 million in locked volume and $229 million in 24-hour volume.
From a capital utilization perspective, Uniswap V3 deserves to be the best decentralized exchange. Even from a volume perspective alone, Uniswap V3 is currently the highest traded DEX by virtue of its not-so-high lockup volume.
Among the decentralized exchanges, Curve has a firm hold on the main market in terms of like-asset trading with its low slippage and low fees (0.04%). Other decentralized exchanges usually require a 0.3% fee, which is not competitive at all for transactions such as stablecoins, which are usually larger in amount. On the centralized exchange side, Coinan is trying to expand the application of BUSD by waiving the fees between its own BUSD and other stablecoin trading pairs.
After the launch of Uniswap V3, users can set the liquidity between stablecoin trading pairs with low volatility to a very small range, such as USDC/USDT trading pairs, which can limit the liquidity range to a small range of 0.994 to 1.005. By having very high capital utilization in a small range, LPs gain revenue and have a stablecoin trading experience comparable to Curve.
Uniswap V3 may provide a better experience when considering the difference in Gas fees between the two transactions.
Stablecoin returns on decentralized platforms also decrease with the inflow of capital and the maturity of the platform. Again, using the May 28 data as an example, the yield of Y pool in Curve is 2.18% of the base APY of the transaction plus 0.88% to 2.21% of the CRV bonus, and if no CRV tokens are pledged, then the combined annualized yield of Y pool is only 3.07%.
Comparing the three stablecoin trading pairs USDC/USDT, DAI/USDC, and DAI/USDT in Uniswap V3 with a 0.05% transaction fee, the APY is calculated to be 8.7%, 5.7%, and 12.1%, respectively, based only on the TVL and 24-hour trading volume on May 28, without token incentives, which exceeds the Curve yields of most stable coin pools. Therefore, currently for LPs, providing liquidity for stablecoin trading pairs in Uniswap V3 can also yield higher returns than Curve.
Low-fee cross-asset trading
After the success of Uniswap’s AMM mechanism, various DEXs following Uniswap’s lead have set their transaction fees at the same 0.3% as Uniswap, making the friction of on-chain transactions far greater than centralized exchanges. In the case of Cryptocurrency, for example, without inviting rebates or other fee reductions, the fee for coin transactions is only 0.1%, which can be reduced to 0.075% if BNB is used for credit.
Uniswap V3 can customize the commission rate, currently there are three levels: 0.05%, 0.3% and 1%. If the volume of transactions is made larger through lower fees, and LPs end up with no lower APY than the other slots, then it is likely that LPs will be attracted to choose the 0.05% fee percentage.
As seen in the chart below, the liquidity of ETH/Stablecoin pairs is still concentrated in the pairs with a 0.3% commission. Among the pairs with a 0.05% commission ratio, ETH/USDC and ETH/USDT have lower yields than most other pairs, while ETH/DAI has much higher yields than other pairs. With a lack of liquidity, the daily fee returns can fluctuate widely, and overall the 0.05% fee ETH/Stablecoin trading pairs may yield slightly less than 0.3% a notch.
According to Uniswap founder Hayden Adams at Consensus 2021, Uniswap is providing funding through grants for the community to build a liquidity mining smart contract that can be used by any project that wants to incentivize liquidity, and if community governance passes, UNI may go live with a liquidity mining program.
If liquidity mining rewards can be used for the major pairs that need the incentive the most with a fee percentage of 0.05% a notch, it will likely make Uniswap’s transaction friction much lower than centralized exchanges, thus disrupting existing decentralized and centralized exchanges and making Uniswap the biggest competitor to Coinbase as reported in the Wall Street Journal.
In less than a month since Uniswap V3 went live, Uniswap V3 has already surpassed almost all decentralized exchanges in terms of daily volume. From this, we can also see some future trends.
Uniswap V3’s liquidity will continue to grow. After the 5.19 crash, the TVL of decentralized platforms such as Uniswap V2 suffered greatly, and the liquidity of Uniswap V2 is now only about half of its peak. Uniswap V3’s liquidity, on the other hand, continues to grow after a brief period of decrease.
The growth in trading volume may not be keeping pace with the growth in liquidity. In recent days, while liquidity has grown, Uniswap V3’s trading volume has continued to decrease due to the overall inactivity of the market.
Trading fees will continue to be less attractive to the average user and the risk/reward ratio will rise. Without a sufficiently good strategy, the current risk of providing liquidity in Uniswap’s small range is extremely high. While Uniswap can exponentially increase the efficiency of using funds, the impermanent losses are also increasing exponentially. According to htdefi-lab.xyz/simulator calculations, if liquidity is gathered at half to two times the market price, the capital utilization is 3.41 times higher, then the impermanent losses also increase proportionally during market fluctuations. Based on practical experience, the average liquidity of the current 0.3% fee tranche of the ETH/USDT pair is far more concentrated than this. With the current market price fluctuations too high, after aggregating liquidity, the impermanent loss may not be enough to compensate for the fee gain.
Liquidity will continue to gather around the market price and change with it. Take the current best liquidity ETH/USDC pair for example, the ETH price is 2505 USDC and liquidity is mostly distributed in the range of 2000 to 3400 USD. As you can also see from the chart below, there are large orders in the range of $2560 to $2600 where liquidity is provided, and when the price rises above this range, all of the user’s ETH is sold, and it is no longer inseparable between providing liquidity and scheduling transactions.
Uniswap V3 will benefit from the growth of Layer 2. Uniswap V3’s market making strategy will be more flexible on Layer 2, reducing the impact of Gas fees. uniswap had already had a good relationship with Optimism, but due to the delay of Optimism’s main network, Uniswap V3 was not able to go live on Layer 2. Uniswap has voted on Snapshot to deploy Uniswap V3 to Arbitrum, which was approved with 100% support.
New Uniswap V3-dependent professional market makers and active market making strategies will continue to emerge, with the potential for excellent market making machine gun pools. A number of excellent projects have already emerged, such as Lixir, Charm Alpha Vault, Visor, Method Finance, etc., which will be briefly described below.
Lixir: Uniswap V3, a market-making strategy provider, enables market-making funds to remain concentrated and move with the market price, ensuring more liquidity around the market price, while helping to reduce impermanent losses.
Charm Alpha Vault: Helps liquidity to rebalance funds. If the value of ETH and USDC is initially 1:1, when the market price drops causing the ETH ratio to increase, Alpha Vault first takes liquidity out, re-provides liquidity at 1:1 of available funds for ETH and USDC, and provides liquidity at a higher price range with ETH only.
Posted by:CoinYuppie，Reprinted with attribution to:https://coinyuppie.com/see-the-trend-of-uniswap-v3-can-high-capital-utilization-and-low-fees-disrupt-centralized-exchanges/
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