The Development and Application of AMM in the Web3 Industry

In the current Web3 industry landscape, DeFi-related products dominate. As a key component, automated market makers (AMM) are driving innovation and transformation in the Web3 financial sector. This article will introduce several important AMM implementations in the Solana ecosystem, aiming to provide reference for liquidity providers (LP) in their investment strategy choices.

CPMM - Constant Product Market Maker

CPMM ( Constant Product Market Maker ) is one of the most basic AMM implementations. Taking a trading platform in the Solana ecosystem as an example, its CPMM follows the constant product principle, meaning that the product of the supply of the two tokens in the pool remains unchanged: X * Y = k.

When users inject liquidity into the pool, the system will automatically create a related account for the user and issue LP Tokens to prove the user's share in the pool. These LP Tokens will be destroyed when the user withdraws liquidity.

The on-chain program of CPMM is developed using Anchor. When exchanging tokens, users trigger swap-related instructions. For example, when a user wants to exchange USDC for TRUMP, they can do so through the TRUMP-USDC pool.

The core logic of CPMM lies in maintaining a constant product. When a transaction occurs, the system calculates the amount of target tokens that can be obtained based on the input token quantity, ensuring that the product of the two types of tokens in the pool remains unchanged before and after the transaction. This calculation process takes into account factors such as transaction fees.

CLMM - Concentrated Liquidity Market Maker

CLMM ( Concentrated Liquidity Market Maker ) is a more advanced AMM implementation. It allows liquidity providers to choose specific price ranges when injecting funds, distributing the funds only within that range. This mechanism is similar to implementations of certain well-known DEXs, but due to the characteristics of the Solana chain, there is no need to deploy contracts separately for each pool.

CLMM supports multiple fee tiers, and corresponding pools can be created for each token pair. It also introduces concepts such as ticks, multiple fee tiers, and concentrated liquidity.

Liquidity providers can choose to concentrate their funds near the current price or provide unilateral liquidity, similar to limit orders in traditional finance. For pools with low volatility, LPs tend to choose a smaller price range; while for pools with high volatility, they tend to choose a larger range to reduce impermanent loss.

Although concentrated liquidity can improve capital efficiency, it also raises higher demands on LPs' financial management capabilities. LPs need to manage their liquidity more proactively to cope with the risks brought by market fluctuations.

DLMM - Dynamic Liquidity Market Maker

DLMM ( Dynamic Liquidity Market Maker ) is another innovative AMM product. It introduces the concept of Bins, dividing the price range into multiple small intervals. Trades within the same Bin can enjoy zero slippage, which helps increase trading volume and success rates, theoretically bringing more profits to LPs.

In DLMM, the tokens in the pool are distributed on both sides of the current price. The currently activated Bin contains two types of tokens, while other Bins only contain a single type of token. When the amount of tokens in the activated Bin changes, the system adjusts the activated Bin based on actual conditions, thereby driving price changes in the pool.

DLMM provides LPs with three strategy options: Spot, Curve, and Bid Ask. The Spot strategy is suitable for most liquidity pools; the Curve strategy is more appropriate for pools with small price fluctuations, such as stablecoin pairs; the Bid Ask strategy is suitable for pools with larger price fluctuations but requires LPs to frequently adjust their positions to respond to market changes.

Summary

AMM, as an important component of the Web3 financial sector, has promoted the development of decentralized finance through its unique mechanisms and innovations. With technological advancements and the improvement of the ecosystem, AMM is expected to play a greater role in the future, further changing the landscape of traditional finance. For liquidity providers, understanding the characteristics and strategies of different AMMs is crucial, as it helps them make more informed investment decisions based on their own risk preferences and market judgments.