Crypto liquidity providers rely on tools that can only exist in Web3. Some of these, such as automated market makers (AMMs), were introduced by the Uniswap protocol and have created avenues for new strategies and financial experimentation.
In June 2023, Uniswap announced its vision for a much-anticipated v4 release, followed by another protocol announcement in July made by Uniswap Labs CEO Hayden Adams, who unveiled “UniswapX” and its promises.
Let’s look into what these are and what they mean for crypto liquidity providers.
Uniswap v4: What’s new?
Each iteration of the Uniswap protocol has continued to build upon the concept of AMMs. However, the v4 release will introduce a set of fundamental changes to its architecture that are especially significant.
The core concept to understand about Uniswap v4 is that it will move to a singleton smart contract model for pools which will, in turn, support the use of hooks. This means that all of the pools on Uniswap v4 will exist on top of one main smart contract. That main smart contract will also work with plugins that allow users to customize the settings of their custom pools throughout their lifecycle.
One of the main concerns for crypto liquidity providers in Uniswap v3 pools was that it had, in the words of founder Hayden Adams, an “opinionated design.” There was only a specific set of features that each pool could have, and these were determined by the Uniswap development team. It wasn’t very customizable when it came to the creation of custom pools.
For example, while Uniswap v3 pools included concentrated liquidity as a feature, there were specific tradeoffs to be made. Uniswap v3 pools incurred high gas costs for its particular use of the price oracle systems that allowed for implementing this feature. This was a decision made solely by the protocol’s developers.
With the move to a singleton design, Uniswap v4’s approach is moving to simplify its core operation so other developers can make their own design decisions. This will allow custom pool creators to implement their own features built on top of Uniswap, eliminating the limited customizability of Uniswap v3 pools.
A new singleton architecture will also reduce the cost of fragmentation and make it easier to route across many pools. The Uniswap team claims that this and the switch to a “flash accounting system” will show improvements in overall performance and security and drastic (up to 90%) reductions in gas fees after the new release.
Uniswap v4’s flagship feature is its support for hooks. These smart contract plugins let users, external teams, and liquidity providers treat the protocol as an underlying infrastructure or base layer and build their own custom DeFi operations on top.
By adding a hook smart contract, deployers of custom Uniswap v4 pools can determine their behavior at different times. They will be able to “customize how pools, swaps, fees, and LP positions interact” according to their own specified conditions.
This allows for the creation of exciting new features. Some of the ones that are particularly exciting for market makers are:
- On-chain limit orders
- Customizable dynamic fees
- Autocompounded LP fees back into the LP positions
- A time-weighted average market maker
A core concept behind the addition of hooks is what the Uniswap team calls “customizable liquidity” or what we’d call “programmable liquidity.” They expand the ability of the assets that are used as liquidity to, in a sense, “manage themselves.”
What does this mean for crypto liquidity providers?
Both a singleton architecture and the introduction of hooks signal a move to an even more open-source and composable approach to the growth of the Uniswap ecosystem.
Besides a boost in customization, this will introduce overall improvements in operational efficiency, costs, and interoperability with other Web3 solutions.
For market makers, v4 means more opportunities than ever to deploy and execute new creative strategies. Its hooks feature also means that crypto liquidity providers will have more control over their operations on the protocol and incentivize long-term liquidity.
Let’s further review what potentials the upgrade will offer to market makers. Introducing hooks will likely expand market makers’ strategies’ horizons regarding liquidity provision, such as, but not limited to:
- Gas cost reduction: gas-saving features such as native ETH support and flash accounting will consequently increase the margins of market makers, encouraging them to engage in LPs and provide robust liquidity for all participants.
- More creative pools ideas: market makers will have more control over their earnings thanks to dynamic fees, which should lead to more innovation in terms of liquidity provisions, as withdrawal fees could discourage impulsive selling.
- A controlled competitive edge: The TWAMM feature allows for limiting the price impact on DeFI by fractionating large orders into infinitely small sub-orders to ensure smooth execution. Automating the fragmentation of orders on-chain is a key step forward since it will let market makers and other big players join the pools, making them more competitive.
What about UniswapX?
Introduced in July 2023 by Uniswap Labs CEO Hayden Adams, UniswapX addresses common pain points associated with on-chain trading and, more specifically, gas-free cross-chain swaps. With the introduction of fillers and swappers roles, UniswapX has the ambition to:
- Improve pricing through aggregated liquidity sources.
- Introduce gas-free swapping.
- Protect against maximal extractable value (MEV).
- Achieve no cost for failed transactions.
In short, UniswapX addresses liquidity pool difficulties by collaborating with third-party fillers to assure adequate liquidity for trades, resulting in more competitive pricing for traders. These fillers also cover gas fees, avoiding the need for swappers to possess native tokens of each blockchain and absolving them of financial liability for failed transactions.
Exploiting Uniswap V4 and UniswapX in synergy could be a powerhouse combination tool for market makers. On the one hand, Uniswap V4’s hook feature allows better efficiencies catered towards the end-users, as it’ll be customizable. On the other hand, UniswapX aggregates liquidity into DeFi, from DEXes and market makers allowing for more competitive liquidity.
We envision a future where a core part of market making involves designing and developing effective hooks for protocols like Uniswap v4 and UniswapX, its eventual competitors, and future iterations.
Stay in the loop to learn more about how Keyrock plans to work with this release and develop new strategies for market making inWeb3 by following on Twitter, LinkedIn, or Lens. You can also contact us today if you’re interested in market making services.