A market maker is a financial middleman, generally an institutional player, that makes the buying and selling of securities a breeze. Essentially, a market maker provides two-sided market prices for a security, with the aim of maximizing profit and minimising risk.
There are several types of market makers, with the most popular being the ones employed by brokerage houses. Typically, a market maker will make offers and bids on a particular security, which may entice investors to invest in the security. Moreover, the market maker’s primary responsibility is to ensure the smooth functioning of the financial market. Market makers are also compensated for the risks involved in holding assets.
The market maker’s job is made easier by a suite of supporting tools. For instance, a liquidity pool, like that of a forex trader, is one such way to decentralise cash-intensive functions. Such pools require a set of cryptocurrencies, typically two, to be the liquid. Depending on the size of the pool, the requirements vary.
Another key enabling technology is a “protocol,” a sort of guidebook or e-book for the decentralised organisation. In the case of a DeFi e-book, it might be a crypto based e-book or a purely text based one. It can be an asynchronous or synchronous method.
While the AMM may not have been the first to make the grade, its low cost of entry has paved the way for other cryptocurrencies to gain some traction. Indeed, the DeFi sector is a young one. But a number of projects, from DODO to CoFiX, are aiming to deliver the next generation of decentralized financial services. To help ensure a robust ecosystem, a number of innovative solutions have been developed to address the aforementioned challenges. One such solution is Bancor, which introduces insurance to mitigate the worst-case scenario. This means that the tokens entrusted to the LPs are refunded in full in the event of a catastrophic failure.
Of course, if the name of the project is any indication, there is a whole host of other innovations on the horizon. Some notable projects include Curve, which specializes in liquidity pools of similar assets; Uniswap, a platform that allows users to create dynamic liquidity pools of up to eight different assets; and Balancer, which extends the functionality of Uniswap with the aforementioned features. With more than a hundred projects in the works, it is safe to assume that the DeFi sector will continue to grow and evolve over time.
Although the AMM may not have been the first on the block, its successors have provided the necessary liquidity to keep the scalability of the market making DeFi industry afloat. Having automated market making systems in place is a major step toward realizing the dream of decentralized finance. Moreover, it is one of the many ways to attract more and more liquidity providers to the fold.
The best part of all is that it’s likely that more and more people will see the merits of decentralized finance. Those that do, in turn, will be in a better position to innovate and offer new solutions that will enable DeFi to reach its true potential.
