iZiSwap & Discrete Flow Model: Revealing the Future Trend of AMM

iZiSwap & Discrete Flow Model: Predicting the Future of AMM

History of AMM

In late 2018, Uniswap emerged as a new decentralized exchange (DEX) that, unlike other DEXs at the time, used an Automated Market Maker (AMM) model instead of an order book to address a range of issues resulting from Ethereum’s performance limitations, including slow transaction confirmation speeds. Uniswap has repeatedly proven the potential of the AMM model in practice, but this has come at the cost of performance trade-offs such as inevitable slippage and impermanent losses, as well as low capital efficiency. The latter issue has been a source of criticism, along with occasional sandwich attacks and poor user experience resulting from a single order type.

In May 2020, Uniswap v2 was released, which built upon v1 by adding token swaps and making it harder to manipulate prices. However, this did not involve any optimization or adjustment to the AMM model. One year later, in May 2021, the Uniswap team launched Uniswap v3, which introduced the well-known concept of concentrated liquidity.

Specifically, in v1 and v2, when liquidity providers (LPs) provided liquidity to a pool, the liquidity was allocated across all price ranges from 0 to infinity. However, most assets only trade within a certain price range, so much of the liquidity provided by LPs goes unused, resulting in low capital efficiency. The concentrated liquidity solution in v3 allows LPs to choose a price range to provide liquidity, and they only receive fees when assets trade within that range. This dramatically improves the capital efficiency of the AMM model. As a result, slippage and impermanent losses have also been alleviated to a certain extent.

Although Uniswap v3 solved the biggest issue with AMM, there are still other issues waiting to be resolved. Uniswap v3 has been live for two years, so it is reasonable to suspect that the Uniswap team is preparing for Uniswap v4. While we wait for Uniswap v4, let’s take a look at some of the exciting innovations in the AMM space over the past two years.

• NFT lending platform Astaria, co-founded by Sushi’s former CTO Joseph Delong, is officially launched to the public.
• Token Terminal: In-depth analysis of the operating principles and economic models of common Layer1
• Token Terminal: In-depth analysis of the operating principles and economic models of common Layer1s

iZiSwap’s Solution

DLAMM Model

In May 2022, iZUMi Finance released its DEX product iZiSwap, which introduces a new AMM model called Discretized-Liquidity-AMM (DLAMM).

Mathematical formulas used in DLAMM, source: iZiSwap WhiteBlockingper

Specifically, DLAMM discretizes the continuous price curve into numerous price points based on the constant product model. In addition to these points, the trading price of the trading pair will not have any other values during the fluctuation process. Liquidity providers can only provide liquidity at these price points, and traders can only trade at these price points.

Price points in the DLAMM model, source: iZiSwap WhiteBlockingper

In DLAMM, the market price can only exist at a discrete price point, and only liquidity pools above or below the market price point contain one type of asset. Transactions at any price point will directly affect the proportion of the liquidity pool at that price point, but the transaction price remains unchanged until the liquidity at that price point is traded down to only one type, and the market price moves to the adjacent price point and the process repeats.

Advantages of the DLAMM model

Upon closer inspection, we can see that the underlying logic of the DLAMM model is actually very similar to the order book model, which we believe is also one of the future development trends of DEX. Uniswap introduced the AMM model as a result of the trade-offs between Ethereum performance at that time, which brought various problems while providing convenient services to traders. With the development and iteration of infrastructure networks, the shortcomings of the AMM model itself will be gradually optimized, and DEX will also gradually move towards the order book model. In November 2022, Trader Joe v2 was launched, and Trader Joe also uses a similar AMM model to DLAMM in v2.

Compared with current DEX, the main advantages of the DLAMM model are:

DLAMM and constant product AMM, Source: iZiSwap

• Compared to the constant product model’s price curve, the price points of DLAMM are more accurate. The price curve of the constant product model is a continuous smooth curve, but the impact of any trading pair’s price is not smooth. The constant product model can only determine the price before and after the transaction based on the ratio of liquidity pools before and after the transaction, and the actual transaction price of each transaction needs to be calculated based on the change of the real transaction liquidity pool. For example, when trading on Uniswap, the trader needs to set the size of the transaction and the maximum slippage that can be tolerated before the transaction. Uniswap will estimate an approximate transaction price based on the information submitted by the user. In the case of insufficient liquidity, this estimated price may differ greatly from the actual transaction price. However, on iZiSwap, these price points are determined by the discrete price formula, where p represents the relative price of the two tokens in a trading pair. This makes the transaction price more predictable and improves the transparency of the transaction.

Calculation formula for determining relative price points in DLAMM, source: iZiSwap WhiteBlockingper

• While meeting the accuracy requirements of traders for prices, DLAMM further improves capital utilization efficiency. In real life, when people describe the price of a token, they often do not describe it very accurately, but are accustomed to having a minimum incremental interval. For example, when the price of $ETH is $1,817.26, it is often only necessary to be accurate to the unit $1,817, and sometimes only to the ten $1,820. Therefore, using 1‱ as the relative minimum price increment interval is sufficient to adapt to the sensitivity of traders to prices in most cases. At the same time, this design also aggregates liquidity in the price point vicinity to the price point, further increasing capital utilization. Transactions within a single price point by traders conform to the constant product model, that is, in the case of sufficient liquidity, transactions within a single price point may not even produce slippage.
• Fully compatible with limit orders. Because DLAMM determines the tradable price points in advance, it makes it possible to adapt to limit orders. In December 2022, iZiSwap launched a new version of iZiSwap Pro. In this new version, iZiSwap provides on-chain limit orders. The limit orders submitted by traders will be added to the liquidity pool of price points in a reverse liquidity manner. When the market price fluctuates within the trader’s order range, this part of the liquidity will be offset against the liquidity provided by LP to achieve limit order trading. Synchronous with limit orders, iZiSwap also launched a user interface that adapts to limit orders. Users can switch between the classic AMM DEX trading interface and the limit order trading interface at any time, enabling both AMM DEX traders and centralized exchange traders to complete transactions smoothly on iZiSwap.

iZiSwap Pro’s limit order mode UI interface, source: iZiSwap

• Compared with the order book DEX currently on the market, the limit order DLAMM of iZiSwap Pro is safer. This is because the current order book DEX is still composed of off-chain transaction matching engines and on-chain transaction records. For example, if you want to trade on dYdX, the trader needs to deposit first on dYdX. Although this deposit transaction is recorded on the blockchain, and each transaction of the user on dYdX will be returned to the Ethereum mainnet in the form of Rollup with zero-knowledge proof attached. DLAMM is still AMM, and traders only interact with the liquidity pool without the need for counterparties. Therefore, there is no need for a centralized transaction matching engine. Just wait for the market price to reach the order price after placing the order to complete the transaction. On iZiSwap, user interaction does not require deposit and withdrawal, eliminating the risk of fund custody.

Conclusion

Since its launch in May 2022, iZiSwap has undergone a year of development and practice, and DLAMM has withstood the test of traders. At the same time, iZiSwap is also constantly updating to provide users with a better trading experience. These user-friendly innovations are indeed recognized by users. After the launch of zkSync Era, iZiSwap’s TVL quickly rose to over US$100 million.

iZiSwap trading data, source: iZiSwap

We believe that innovation based on AMM will not stop. When will the era of Uniswap v4 come? Will it bring us greater surprises? It’s hard to say, but iZiSwap has laid another solid foundation on the road of AMM innovation, making the future of AMM more worth looking forward to.

We will continue to update Blocking; if you have any questions or suggestions, please contact us!