From just swapping between ETH and other ERC-20 tokens back in 2019, to providing liquidity in a certain pool at 50%, along with more capital (2020), using the innovation of providing concentrated or range-bound liquidity today (2023). Certainly the ability of a liquidity provider to implement a sophisticated strategy has grown, and to the benefit of the DEFI ecosystem itself. In between, protocols have emerged to implement automated active liquidity management strategies, given the competitive advantage for many to not have to create the pool and think about which assets and strategy to implement to optimise both, time and capital.
Throughout this time, I am left with how difficult it is to design a cost-effective liquidity strategy, as liquidity management faces innumerable challenges. So far implementing strategies on protocols such as Uniswap V3 is technically challenging, as we don’t have an LP token that we can easily use to seed it elsewhere. We are now given an NFT that gives us ownership of our position in the pool, where extracting and managing the metadata is more complex. Nowadays, many managers use a delta-neutral, especially in bear markets, to try to somehow mitigate volatility, because if it turns against us, the capital losses are quite steep, in a very short space of time.
But defi is not just about Uniswap, nor it’s just about providing capital in liquidity pools. Defi is an ocean of opportunities that is constantly growing, thanks to the appearance of new networks and layers, on which very interesting and necessary protocols are being built. Defi offers diversity when it comes to trading with them, being able to work with synthetics, in perpetual futures or with options. This new generation of protocols has an advantage over their L1 competitors, as they can build an ecosystem of products around their exchanges without fighting for space. Another success story brought to us by the DEFI space, was GMX’s new liquidity model, “the Real Yield”, which will be the next big trend in the crypto market in the coming years, especially in the next bull cycle. Instead of employing an AMM or CLOB model, GMX pioneered the use of a liquidity pool in which users could deposit assets included in its list, in exchange for GLP, a token representing their share of the pool. GLP holders get a share of the protocol’s revenues in exchange for being the traders’ counterparty on the perpetual exchange.
What the future holds is a bit uncertain, but very tantalising at the same time, as it will require us to keep learning and improving, in order to grow along with the space. A new wave of decentralised financial projects is on the horizon, where we will be able to use as capital or counterpart NFT’s, avatars, game items, real estate, energy, even our reputation generated in the new decentralised social networks, in short, everything that can be tokenised with business sense, and that can have an exchange market or counterpart that pays for it and accepts its value. Tokenisation is undoubtedly the true innovation, because it eliminates any kind of social, ethnic, financial, geographical, religious and political barrier to turn anyone into a holder of value stored on a simple mobile device, and who can trade with it, since the concept of value will be very abstract.
As for the institutional sector, whether it’s private banking, insurance companies, investment funds, asset managers or any government that wants to dive into Decentralised Finance to explore and exploit all its virtues and of course all its flaws. They will have to jump through the regulatory hoops, along with taxation adapted to the new speed of money (we are moving towards a taxation model that allows taxes to be paid as profits are generated or services are invoiced, i.e. real-time cash-flow), and work hand in hand with the protocols to build them vaults for their exclusive use and tailored to their needs and capital under management, and above all to eliminate the risks inherent to the DEFI sector, since their own internal policies do not allow them to assume risks as high as those to which the rest of us mortals are exposed in the “For Retailers” vaults, relating to technical risks (Rug pulls), operational risks (account hacking) and financial risks (extreme volatility).
So, “let the hunger games begin”.