Automated market makers (AMMs) are revolutionizing decentralized finance through algorithmic liquidity pools. How do these ingenious protocols work?
Farewell To Order Books
Unlike centralized exchanges, AMMs use mathematical formulas instead of order matching between buyers and sellers. Liquidity pools provide continuous pricing.
When you trade via an AMM, the smart contract simply transfers tokens, adjusting amounts to maintain pool ratios. No bid/ask spread or waiting for orders.
The Beauty Of Balanced Pools
AMMs like Uniswap govern via the constant product formula. When tokens are traded, the product of the pooled assets is kept constant by raising/lowering prices.
Arbitrageurs ensure prices match external markets. More liquidity means less price impact. AMMs become more capital efficient at scale.
Passive Income For Liquidity Providers
By contributing funds to a liquidity pool, you earn yield from the trading fees charged to users. Top DeFi AMM pools offer over 100% APY for liquidity providers.
As the pool grows, rewards distribute across more users. But reduced price impacts improve stability. Being an early provider is highly rewarding.
The Future Of Decentralized Trading
AMMs represent a breakthrough in decentralized exchange capabilities, showcasing the power of blockchain automation.
As liquidity and adoption grows, AMMs will become the backbone of Web3 trading. Their potential scale is exponentially greater than current DEXs.
