What is Uniswap?
Uniswap is a smart contract-based decentralized protocol for trading cryptocurrencies. Let’s find out how it works and why it is in the top five DeFi applications.
Uniswap is compatible with the Ethereum network. It was the first project that implemented an automated market maker and liquidity pools.
Who created Uniswap and when?
Hayden Adams developed the Uniswap protocol. He quit his job as a mechanical engineer at Siemens in the summer of 2017. Adams began learning about smart contracts on the advice of his friend Carl Flersch, then of the Ethereum Foundation.
Carl suggested Adams create a digital asset trading application that would use the Automated Market Maker (AMM) mechanism a few months later.
Alan Liu, the creator of the Gnosis project, was the first to propose AMM on Ethereum. His colleague Martin Koppleman forwarded the idea to Vitalik Buterin, who detailed it on Reddit and his personal blog in 2016.
Adams received a $100,000 grant from the Ethereum Foundation in August 2018 to put the concept into action.
Callil Capuozzo, a Microsoft and Google developer, as well as programmers Uchiel Vilchis, Philip Dayan, Dan Robinson, Andy Milenius, and others, assisted Adams in developing Uniswap.
By March 2018, developers had released a demo version of Uniswap. On November 2, 2018, the protocol’s full version was released.
Adams described Uniswap’s main features:
“There is no central token or platform commission. There will be no preferential treatment for early investors, users, or developers. The token listing is free. All smart contract features are open and can be improved.”
Who came up with the name Uniswap?
Adams originally intended to call the protocol Unipeg, a combination of Unicorn and Pegasus. When Karl Flersch first told Vitalik Buterin about the project, he said:
“Unipeg? Uniswap sounds better.”
Adams agreed to the suggestion.
How does Uniswap work?
The Uniswap protocol includes a set of smart contracts that allow users to trade directly on the Ethereum blockchain. It is technically a decentralized exchange (DEX).
Uniswap is a publicly accessible tool that rewards liquidity providers. Providers support the exchange by “locking” tokens, which allow other users in the decentralized system to trade.
Registration, KYC, and AML procedures are not required for the platform. To use it, all you need is a browser-based wallet that supports the Ethereum network, such as MetaMask.
What are liquidity pools?
Because Uniswap is a decentralized project, there is no administration deciding which cryptocurrencies to list, as there is on centralized exchanges. A new ERC-20 standard asset can be added to Uniswap by anyone.
This necessitates the creation of a liquidity pool — a separate “market” for a specific trading pair. A certain number of new tokens, as well as the base currency of the ERC-20 standard for the same amount, are required to open a pool for a new token.
Uniswap does not require buyers and sellers to agree on a price for digital assets but instead employs an equation: x * y = k. In the equation, x and y represent the number of tokens available in the liquidity pool; k is a constant.
The equation computes the price of a specific token based on the balance between the tokens in the pair as well as supply and demand. This pricing and quoting mechanism is known as an Automated market maker (AMM).
Each token has its own smart contract and at least one liquidity pool. Any Uniswap user can trade that coin or contribute to the liquidity pool, earning commissions.
Whenever new tokens are added to the Uniswap liquidity pool, the user receives an ERC-20 standard “pool token” (LP). The pool tokens can be exchanged, moved and used in other decentralized applications.
When the funds become scarce, the pool tokens are destroyed. Each pool token represents the user’s share of the total assets in the pool. It is also based on a pro-rata share of the pool’s exchange fees.
How are tokens traded on Uniswap?
The Uniswap protocol can be accessed via the uniswap.org interface. You can connect to it using a browser wallet that supports Ethereum.
The user has the option of exchanging tokens or adding assets to the Uniswap liquidity pool. The user must choose which token they want to receive and which asset they want to pay with. The user must then confirm the transaction by paying a fee to the Ethereum network and approve the transaction with their wallet.
Uniswap can also be accessed via DeFi-aggregators, which are special applications that collect real-time data about pools, allow for simultaneous connections to multiple decentralized protocols via a single platform, and provide additional features. 1inch, InstaDApp, and Zapper are three popular DeFi-aggregators.
In addition, there are special liquidity managers to help simplify trading and increase profitability.
What is Uniswap v2?
n April 2019, the project team raised over $1 million in an investment round led by the investment company Paradigm. With these funds, they developed the second version of Uniswap (Uniswap v2), which included a number of new features.
The ability to exchange any ERC-20 token for another
If a new asset could only be placed in a pool with ETH in the first version of the protocol, any ERC-20 token can now be placed in a pool with any other asset of the same standard in Uniswap V2. Wrapped Ether (WETH) is used instead of ETH in basic contracts, but end users can still use ETH via ancillary contracts.
If two ERC-20 tokens do not form a direct pair and do not share a common pair, they can be swapped as long as a path exists between them. Router contracts are used to improve the efficiency of direct and multi-step swaps.
Improved control of quotes
Uniswap v2 has improved control of quotes through the use of oracles.
Instant Swaps
Instant swaps allow you to withdraw any number of coins for arbitrage and margin trading, for example.
What is a UNI token?
UNI is a management token designed to participate in the Uniswap management system, specifically for voting. The project’s creators unexpectedly announced its release date in September 2020.
They decided to distribute the tokens in an unusual manner. Instead of a token sale, the project team decided to conduct an airdrop, awarding a fixed amount of UNI to each user of the decentralized exchange who performed any actions on it at least once.
Uniswap (UNIvalue)’s increased several times immediately after issuance, and it entered the top 50 cryptocurrencies by capitalization. According to CoinMarketCap, the total capitalization of this digital asset surpassed $7 billion at the beginning of May, and it is traded on all major cryptocurrency exchanges.
How is SushiSwap related to Uniswap?
Uniswap was long inferior to centralized exchanges in terms of trading activity, and DeFi had applications with significantly more blockchain (TVL), particularly MakerDAO.
Following the release of its second version, the protocol’s popularity skyrocketed. According to DeFi Pulse, TVL in the project has increased from approximately $36 million when Uniswap v2 was launched in May 2019 to nearly $2 billion by the end of September.
Against the backdrop of a 2020 hype, other DeFi projects began to mimic the Uniswap model, specifically the liquidity pools and AMM mechanism, but with more appealing terms for users.
SushiSwap, a fork of Uniswap, was the main competitor at the time. The only significant difference was that it had its own control token. Furthermore, it was initially possible to generate revenue by utilizing existing Uniswap liquidity tokens in this protocol. All pool participants received the management token, which significantly increased the size of their rewards. SushiSwap was able to “poach” 70% of Uniswap’s liquidity in a short period of time.
However, SUSHI’s previous liquidity was lost when token rewards were reduced. Finally, after the issuance of the UNI management token, Uniswap was able to reclaim its leadership.
How is Uniswap evolving?
As of early May 2022, Uniswap is still one of the top DeFi projects, ranking fifth in terms of blocked funds with $7 billion.
Uniswap was able to form a quorum in December 2020 to make its first decision. Members of the community approved a grant program using UNI tokens to grow the ecosystem.
In May 2021, one year after the release of the second version, the third version of the decentralized exchange, Uniswap v3, went live. It includes revolutionary new features and components such as concentrated liquidity, limit range orders, and multiple positions within a single pool.
Shortly after, Uniswap users backed the launch of the second-tier solution Arbitrum’s protocol on the Ethereum network. The decentralized exchange launched an alpha version of the platform on the main Optimistic Ethereum network in July of the same year. Uniswap went live on the Polygon network later that year.
Due to the “evolving regulatory landscape,” Uniswap stopped trading 129 tokens on its interface in the summer of 2021 under regulatory pressure. The exchange has been blocking users under sanctions since April 2022.
In the spring of 2022, the project team launched Uniswap Labs Ventures to invest in Web3 products.
What is Uniswap v3?
The concept of concentrated liquidity distinguishes this new version of Uniswap from the previous one. Liquidity Providers (LPs) can now provide funds to the pool within a specific price range.
This allows market participants to concentrate liquidity where the majority of trading activity takes place. As a result, by allocating free funds to other pools and investment instruments, LPs can increase their return on capital. This strategy allows for greater risk diversification.
Active liquidity is also introduced in Uniswap v3. If the price moves outside the designated LP range, the liquidity is effectively removed from the pool, and the fee income ceases.
When this occurs, all of the liquidity flows to one of the assets in the pool. At that point, the LP can either wait for the price to return to a given range or switch to a more relevant price range.
Range Limit Orders are another new type of order available on Uniswap. It enables LP to assign tokens of the same type to a price range that is higher or lower than the current market price. When the price enters the user-specified corridor, one asset is sold in exchange for another. When used within a narrow range, this feature has the same effect as a standard limit order.
There are also multiple positions in the protocol with the new release: LPs can provide liquidity to the same pool at different price ranges, which may overlap.
For liquidity providers, Uniswap v3 has a three-tiered commission structure with rates of 0.05%, 0.3%, and 1% per trade. The company anticipates that 0.05 percent commissions will be used primarily for pairs involving stabelcoins. The 0.3% rate will be used in pools such as ETH/DAI, while the 1% rate will be used for trading much more volatile pairs with low-liquid assets.
