The invention of automated market makers (AMMs) has not only revolutionized the world of Decentralised Finance (DeFi) but also pushed for the mass adoption of DeFi. The ability for cryptocurrency investors and enthusiasts alike to provide liquidity to their favourite crypto asset, and earn a passive income has taken the world of DeFi by storm.
According to DefiPulse, more than $4 billion worth of crypto assets have been locked across various AMMs and they are responsible for more than $1 billion worth of daily trading volume on decentralised exchanges (DEXs). These metrics show the general popularity of AMMs.
Nevertheless, AMM is a new technology, and as with every new technology, AMMs have a few problems. In this article, we will look at the current problems with AMMs and the solution proposed by Centaur which improves AMM.
Problems With Current AMMs
One of the major problems with the current version of AMMs is of Impermanent Loss. Impermanent loss is the price difference between holding the tokens in your wallet versus holding the same tokens in a liquidity pool. The price difference mostly happens due to pool restructuring and can cause a temporary loss to the Liquidity Providers (hence the name impermanent loss). You can learn more about impermanent loss here.
Apart from impermanent loss, another major problem with the current AMMs is slippage. Slippage is the price difference between the expected trade price and the execution price. Slippage exists in centralised entities as well, but it’s more prevalent and noticeable in the DEXs, especially on low liquidity pairs.
Moreover, the current AMMs are limited to a single chain only. For example, a user won’t be able to use their ERC20 & TRC20 tokens together using current AMMs.
Lastly, not a problem per se but liquidity providers have seen their returns drop significantly due to heavy competition on popular trading pairs and less activity on low trading pairs.
With an awareness of the problems in the current version of AMMs, Centaur had embarked on a journey to solve these issues and we believe we have hit the ideal solution which not only solves the above issues but also expands the functionality of AMMs.
At Centaur, we believe that an ideal AMM, apart from providing liquidity, should ensure a good experience for all the stakeholders which includes Liquidity Providers(LP) and traders. So we believe an ideal solution should have the following characteristics:
- a minimal impermanent loss for liquidity providers,
- low slippage for traders, and
- high returns for liquidity providers
Forget Pairs, Think Single
In most AMMs currently deployed, liquidity provision is done in pairs, that is, liquidity is provided by supplying an equal value of an asset on both sides. For example, to provide liquidity on an ETH/USDT pair, a liquidity provider will have to stake ETH and USDT together in equal amounts of dollar value.
This works well, but it is a simple approach, which was popularized by Uniswap. The biggest drawback of this approach is that the liquidity provider is now exposed to two different assets at the same time which results in most of the problems mentioned above.
While there are other potential solutions proposed such as Curve Finance’s stable coin pairs, or Bancor’s insurance pool to cover LP’s impermanent loss, these solutions are a temporary fix and do not fix the underlying problem.
Centaur takes a different approach for Centaur Swap. In Centaur Swap, pools are represented by individual assets instead of in pairs. This means Centaur Swap will allow liquidity providers to stake their assets without requiring a counter asset of equivalent value. For example, if an LP wants to provide liquidity for ETH, they only need to stake their ETH and not pair their ETH with a different token.
This approach is known as Single Side Staking and it’s at the heart of Centaur Swap. By using Single Side Staking in Centaur Swap, traders enjoy reduced transaction fee, low slippage while liquidity providers enjoy high returns, and no impermanent loss.
At this point you would be wondering, how does changing from a pair-based approach to Single Side staking deliver such drastic improvements. Let’s find out.
Benefits Of Single Side Staking
One of the biggest drawbacks in the pair-based approach of the current AMMs is that it increases risk exposure across two assets at the same time. And as AMMs constantly make price adjustments, sometimes these adjustments are inefficient which leads towards impermanent loss. By single side staking, an LP is only exposed to a single asset, thus reducing impermanent loss.
Moreover, as mentioned above, slippage is more prevalent in low-liquidity pairs. Single side staking drastically reduces slippage as the entire concept of “low-liquidity pairs” has vanished. That’s because, in an AMM based on single-side staking, the liquidity is combined via a pool.
Since the entire liquidity for a particular token in single side staking is combined, liquidity for that token can be managed efficiently. Currently on most of the AMMs, the locked liquidity is underutilized. For example, if the total value locked (TVL) of Ethereum locked on Uniswap is worth billions of dollars but the pair only has 100k worth of liquidity, then the effective liquidity of Ethereum for that pair is only 100k and not the billions worth of Ethereum that is locked up. Centaur Swap, which uses single side staking, doesn’t face such a problem as the same liquidity is applied across all pairs making Centaur Swap more efficient in terms of liquidity management.
But most importantly, single side staking opens the door towards cross-chain interoperability in AMMs, that means in the future a trader will be able to exchange cryptocurrencies on completely different chains via Centaur Swap. Centaur’s traders will be able to swap seamlessly between any two tokens on Centaur Swap without having to route the trade through multiple pairs.
Centaur Swap is a revolutionary product which would bring Centaur one step closer in its mission to be the bridge between the world of centralised and decentralised finance while pushing the boundaries of what is possible in the world of DeFi.
If you are interested in learning more about Centaur Swap, how single side staking works, and how Centaur uses single side staking to provide liquidity please go through our newly released whitepaper on Centaur Swap.
By combining the best elements of decentralised finance with measured regulatory control, Centaur is bridging DeFi and traditional finance. For more information, please take at a look at our website or join our Telegram community discussion group and announcement channel.
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