Constant Function Market Makers: DeFi’s “Zero to One” Innovation

Photo by Elizabeth Explores on Unsplash
  • Explain the difference between automated market makers and constant function market makers
  • Explore the pros & cons of constant function market makers and discuss future directions of CFMM designs and use-cases

Clarifying terminology

Constant Function Market Makers

  • Traders: Exchange one asset for another asset.
  • Liquidity providers (LPs): Willingly accept trades against their portfolio in exchange for a fee.
  • Arbitrageurs: Maintain the price of assets within that portfolio in accordance with the market price in exchange for a profit.

Constant Product Market Makers

Constant Sum Market Makers

Constant Mean Market Makers

Source: Balancer Whitepaper

Hybrid CFMMs

Source: Curve Whitepaper
Source: Shell Whitepaper

Benefits of Constant Function Market Makers

Faster exchange

Bootstrapping liquidity

On-chain oracles

Path independence

  • Because a trader gets the same price from participating all at once as in a set of small trades, traders do not need to strategize how they make trades.
  • It provides a minimum representation of state: we only need to know the quantity to price an asset.

Drawbacks of Constant Function Market Makers

Slippage

Exotic financial risk

Source: AlfaBlok

The Future of Constant Function Market Makers

Asset-specific functions

Liquidity sensitivity

Primary markets

Conclusion

--

--

Get the Medium app

A button that says 'Download on the App Store', and if clicked it will lead you to the iOS App store
A button that says 'Get it on, Google Play', and if clicked it will lead you to the Google Play store