Creating a stablecoin position on a perp exchange is hard, but it should be easy. It not only caters to demand, but it also adds liquidity to perp markets that are perpetually short shorts. Here is how to do that. CEX Stablecoins Good But Risky The new rapidly growing stablecoin Ethena is built on the fact that natural demand for perp leverage is overwhelmingly on the long side. This generates a…
In March 2023 Arthur Hayes wrote a blog post about how to create a better stablecoin. Stablecoins are essential for people who want to transact in fiat, a way for people to deposit into and out of crypto exchanges, and as the numeraire for various trading pairs. On-chain stablecoin provider MakerDao requires considerable over-collateralization (150%) and is not genuinely decentralized or immutable…
Panoptic received $11.5MM in VC funding, and now Uniswap is providing them with some reward money (1 billion Panoptic Incentive Points available!). 1 Many hope that extensions like Panoptic that build upon automated market makers (AMMs) will solve the AMM liquidity provider (LP) unprofitability problem by encouraging LPs to remove liquidity and transfer the implicit option they are selling to…
Panoptic CEO Giaullome Lambert and COO Jesper Kristensen Panoptic promotes a vision where users can create virtually any standard combination of puts and calls on the blockchain without an oracle, auction, or limit order books. This would be very useful because options are difficult for market makers because of their convexity and leverage. An option's lambda captures leverage: Lambda =…
On Tuesday , I argued that the main reason why perps do not dominate spot markets, as in TradFi, is that big players rightfully do not trust them for the following reasons: LOB perps have to be centralized to lower costs and latency, creating a huge incentive for insider preferential access with no accountability The prevalence of pump-and-dump tactics like staking, which, in the context of a perp…
AMMs are not in equilibrium. While LPs for the top Uniswap pools have become profitable, returns within a rounding error of zero. Most people in DeFi, even those building AMMs, do not understand convexity costs, but as everyone figures it out, TVL will continue to stagnate, if not decline. Worse, many yield farming scams are predicated on the underlying yields from LPing, and if this is built on a…
Michael Heiser Joe Rogan and Tucker Carlson mentioned demonic spirits in a recent podcast , and my first thought was that they need to look up Michael Heiser. He was an Old Testament scholar who spent his career examining how various ethereal spirits fit into our world. Heiser died from cancer last year but has a ton of material online, as he did a weekly podcast discussing bible topics, not…
Recently deceased philosopher Daniel Dennett called Darwin's idea of natural selection the best idea anyone ever had, a universal solvent that melts away all the problems in biology. Dennet had contempt for Christians, coined the term 'brights' for those who shared his worldview, and thought it wise not to respect religion because of its damage to the 'epistemological fabric of society.' Like…
Generally, markets are efficient in that it isn't easy to make above-average returns day-trading, and most mutual funds underperform market-weighted ETFs. Yet historically, in various applications, options have been underpriced for decades. For example, asset return distributions were known to have fatter tails than the lognormal distribution back in the 1960s (see Benoit Mandelbrot ('62) or…
A curious aspect of high-frequency data is that most come from centralized limit order books (CLOBs) where the bid-ask spread makes the data look negatively autocorrelated as trades are randomly made at the bid and the ask. The returns driving this pattern are well below transaction costs, so they do not generate an arbitrage opportunity. However, one might be tempted to use the high-frequency…
A recent paper by Columbia professor Ciamac Moallemi and three Uniswap affiliates (Adams, Reynolds, and Robinson) presents a mechanism for recapturing the convexity costs. It builds upon Moallemi's previous work on automated market makers (AMMs) and arbitrage profit , published a year ago, which Moallemi presented at a16z crypto last summer. In that talk, he mentioned auctions as a way to reduce…
arbprofit Columbia professor Ciamac Moallemi, Uniswap's Adams, Reynolds, and Dan Robinson released a paper last week on recapturing some of the LP convexity costs by having the arbitrageurs bid for the right to trade at a reduced rate. I wanted to dive into that, but I thought it would be helpful to see how arbitrage profits relate to LP convexity costs, as this is not obvious. Further, people in…
The crypto bull market is back, best exemplified by worthless meme coins PEPE and Shiba rising to market caps of $3B and $21B, respectively. These types of coins have lottery-like payoffs, making them enticing buys when crypto bros are flush with 'house money.' They could also highlight a worst-case scenario for liquidity providers (LPs), who are short volatility. This is another example of the…
A puzzling aspect of automated market makers (AMMs) is that LPs, in aggregate, lose money, and no one seems to care. Uniswap is the most prominent AMM developer here, currently worth $9B. Uniswap's docs page only indirectly addresses LP profitability, pointing to theoretical papers with no data ( link ) or anecdotal empirical blog posts from 2019 ( link ). If you search this topic and look for an…
Automated market makers (AMMs) invariably present their Liquidity Providers (LPs) with convexity costs. Hedging does not eliminate or even reduce these costs but it does lower volatility. With lower cost volatility, an LP does not need as much capital to cover these losses, so considering capital is expensive, it is correct to say hedging reduces costs, though only indirectly. Consider the pool…
Last week, I commented on the University of Chicago professor Eric Budish et al. 's hedge fund sniping model but neglected a more significant point. To recap, Budish modeled a scenario likened to a Centralized Limit Order Book (CLOB), where liquidity providers (LPs) post bids and asks, and takers then take those orders ( link ). Assuming several high-frequency traders (HFTs) are posting the bids…
The latest horrid DEX simulacrum is Hyperlink , a perp CLOB emphasizing shit coins. It runs on its own dapp-specific L1 using a version of Tendermint, the favorite consensus mechanism for those prioritizing speed. I listened to a Flirting with Models podcast with founder Jeff Yan, where he spoke with Corey Hoffstein, a quantitative long-term equity portfolio manager. Hoffstein's background and…
I don't keep up with the latest economics journals because I've learned that very little of it is fruitful. Like many subjects, the basics are valuable, but the marginal returns are small with the exponential rise in academic output. We aren't in the golden age of economics if there ever was one. Yet, I am still fond of economic models that illustrate a point clearly and succinctly, and I stumbled…
I was surprised to see a tweet by @AnthonyLeeZhang that referenced a short paper showing liquidity providers (LPs) making money on Uniswap's ETH-USDC pool, as I have noted that Uniswap LPs have been losing money consistently since they began. I initially thought there was a mistake, but found his metric of PNL is ultimately identical to mine. Specifically, he used Milionis, Moallemi, Roughgarden,…
One of the biggest mysteries about the Sam Bankman-Fried (SBF) debacle has been how he initially vaulted into the wealth stratosphere. The standard story is that he made a fortune on the price discrepancies between bitcoin in Asia vs. the US exchanges in 2017. Even SBF critic CoffeeZilla accepts this narrative , making it seem like SBF was a great trader caught in an anomalous crash. Most people…
Most crypto traders are confused by the Impermanent Loss (IL) generated in Uniswap’s Automated Market Maker (AMM). The question below posed on the Uniswap Reddit page is an earnest query that, unfortunately, generated the same answer quality a Medieval doctor would have offered on how to prevent scurvy. Impermanent loss is an unavoidable consequence of the liquidity provider’s (LP’s) negative…
Today's most efficient and liquid exchanges are central limit order books (CLOBs). It is a computerized system that aggregates and matches buy and sell orders for a particular financial asset, such as a stock, currency pair, or commodity, in real time. In a CLOB, market participants can place their orders to buy or sell a specific asset, and these orders are then listed in the book according to…
Recent 20% crypto movements have demonstrated again that perp markets continue to gouge their customers. I have written about this several times before, but as it is economically significant, corrupt, and continues unabated, I figured it would be worth revisiting. Alas, reading my old posts, I can see how I muddled my point, perhaps explaining why I am a lone wolf on his issue, so I hope this is…
Impermanent loss ( IL ) is like an exogenous tax on the suppliers in automated market makers ( AMMs ). While liquidity providers ( LPs ) can hedge their IL, this tactic merely reduces its variance. Worst of all, it exceeds the fee revenue in most AMMs, which is not a long-run equilibrium. Fortunately, there is a straightforward way to significantly reduce the IL while maintaining the autonomy of…
Uniswap v3 introduced restricted ranges to address automated market maker capital efficiency. An alternative way to economize capital would give liquidity providers leverage. I will refer to this as a leveraged v2 contract or LAMM (Leveraged Automated Market Maker). I made a prototype that works on Rinkeby here (you can see the contract code here ). Adding leverage to an AMM has several benefits…