Automated Market Maker
automated Market Maker, namely AMM
not relying on order book, using algorithm on smart contract to exchange token automatically where maintaining x * y = k constant between 2 tokens x & y
the higher the liquidity (i.e. more tokens in the pool), the low slippage (i.e. impact to the token price in the pool)
AMM users - enjoy on-chain buy/sell activities without having to match buy/sell counter-parties
liquidity providers - deposit assets to liquidity pools & incentivised by sharing transaction fee when
How AMM works
0
deposits equal values of USDC(x) & ETH (y) into liquidity pool, get LP tokens based on provider's share of total liquidity pool
maintains x * y = k, if price of 1 ETH is 1000, 1000 USDC (x) pairs with 1 ETH (y) to keep the constant
1
intends to swap USDC into ETH, approves contract to use his USDC
smart contract is permitted to interact with the USDC token in trader's wallet
2
confirms swapping USDC into ETH
algorithm calculates impacts to the liquidity pool. (k / total USDC) / total ETH = price of ETH
deposits USDC into the ETH-USDC pool
3
sends corresponding ETH to trader
removes ETH from the ETH-USDC pool
4
receives ETH
receives portions of transaction fee based on provider's share of total liquidity pool
ETH price increased
Advantage vs. traditional financial services
Decentralised - no centralised entity, transactions executed by predefined smart contract agreement
Instant - transactions are immediately processed without requiring others' approval
Transparent - all pools' interactions are visible on chain explorer
Non-custodial - directly interact with users' wallet, users retain full assets ownership
Token accessibility - everyone can provide liquidity to any token, no listing required by any platform owner
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