Can Uniswap V3 build a moat and subvert the existing ecosystem?

In 2018, Uniswap completed an efficient automatic market maker (AMM) trading model with only 500 lines of elegant and concise code, and all DeFi Legos were assembled on it, nourishing a prosperous ecosystem and making the public chain no longer just a tool for issuing tokens, but an infrastructure supported by real value, indirectly opening up the magnificent cryptocurrency bull market in 2021.

Today, Uniswap has subverted itself and launched V3, which has undergone a comprehensive upgrade and triggered widespread heated discussions in the DeFi circle. Let us take a look at this new version.

01
Major update <br />Let liquidity providers make more money

The biggest highlight of Uniswap V3, according to the official statement, is that it improves capital efficiency. In fact, to put it simply, for liquidity providers, they can earn more money and higher returns with the same amount of funds.

In previous versions, when adding liquidity to a pool, the liquidity is evenly distributed in each price range. However, in most cases, users actually only operate in a fixed price range.

This situation is more common in stablecoin exchanges, where the exchange price range is particularly short. For example, the price of the DAI/USDC pair fluctuates only between 1.01 in most cases, which leads to a low utilization rate of funds providing liquidity for the remaining price range. Liquidity providers can only earn the handling fee for this liquidity range.

As we all know, this kind of liquidity mining is commonly known as a pool. For cryptocurrencies with volatile prices, due to the existence of uncompensated losses, a pool is extremely risky and is very likely to lose money. In addition, users who exchange currencies will also encounter large slippage. The price of placing an order is one price, and the price of receiving it is another.

In Uniswap V3, liquidity providers can choose to provide liquidity for a specific price range, for example, in the ETH/DAI liquidity pool, allocate $100 to the 4000 price range, and allocate $50 to the 2000 price range.

Under this market-making model, the capital efficiency of liquidity providers has increased by up to 4,000 times. For example, in order to obtain $5, it was necessary to provide $100 of liquidity, but now only $50 is needed. The remaining $50 of capital can be used for other things, such as staking to other DeFi protocols, or providing liquidity in other price ranges.

At the same time, the liquidity depth in the fund pool will be better, so the slippage will be lower when users make exchanges. This low slippage will even exceed that of centralized trading platforms or the AMM market-making model of stablecoin pairs.

02
Other innovations

1. Multi-level fees: Uniswap V3 allows liquidity providers to choose their own fees between 0.05%, 0.30% and 1.00%. Through these settings, higher fees, such as 0.30%, can be set on trading pairs with a higher risk of uncompensated losses.

For exchange pairs like stablecoins, which have almost no price fluctuations, choose a lower fee, such as 0.05%. As for the currently popular zoo series of altcoins, you can set a fee as high as 1.00%.

2. Oracle: Uniswap V2 introduced the Time Weighted Price Oracle (TWAP), and the current V3 version has also made significant improvements to the oracle. Third parties can call and calculate any TWAP price in the past approximately 9 days.

This makes it easier and cheaper to create more advanced oracles, including simple moving averages (SMA), exponential moving averages (EMA), outlier filtering, and more. At the same time, the V3 oracle update can reduce Gas consumption by 50% compared to V2. It will also become cheaper to calculate TWAP in an external contract.

3. Range Order: In the old version of Uniswap, if we want to provide liquidity, we have to have two tokens. In V3, liquidity providers can earn income by providing liquidity of one token, as long as the current price is not within the range of his choice.

If the exchange pair price enters the price range he chooses, then the asset he provides will be sold for another one, and he can also charge a handling fee. If the price range selected by the liquidity provider is very small, it is a bit like the limit order function in the order book model - the user places an order at a certain price until someone is willing to trade with him at this price.

By analogy with limit orders, we can imagine the application scenarios of range orders: target price shipment, bottom fishing, initial public offering, etc.

4. Positions are NFTs: Since each pair of LP Tokens corresponds to a different price range in V3, LP Tokens cannot be exchanged and transferred with each other, and cannot be realized through the ERC20 token protocol. The positions of LP Tokens will become NFT positions, which may be a small defect after upgrading to V3.

After becoming an NFT, many previously composable third-party applications will no longer be available. For example, when staking LP Tokens, the handling fee will no longer be automatically reinvested into the liquidity pool. Currently, the Uniswap team is also working hard to explore this aspect, allowing liquidity providers to continue to make money through LP Tokens.

03
summary

Perhaps few people realize that the innovation of Uniswap V3 is actually a big change, which greatly improves capital efficiency, and capital will always look for the place with the highest return. However, the DeFi world we are currently familiar with is built on the old version of the AMM market-making model.

Once Uniswap V3 is widely adopted, the supporting facilities that follow will be completely different. Many visionary project owners have gradually shifted from "classical liquidity mining" to the development of the new version. In order to protect the V3 code from being copied and used by other projects as before, the Uniswap team applied for a 2-year patent protection period.

Although this is not open source, decentralized, or blockchain-like, it also demonstrates the team's confidence in V3's ability to independently build a new ecosystem. Can Uniswap V3 build a moat and subvert the existing ecosystem? Let's see if users buy into it.