Without liquidity, you have no value. It is a make-or-break factor for almost all trading products/instruments. Without it, you see high slippage and poor execution which makes for a lacklustre user experience and therefore, lower volumes across the board.
In an industry as open and nascent as crypto, the importance of liquidity is further amplified. There’s a reason tokenomic designs are mainly based on figuring out the best and most efficient way to incentivize liquidity.
Many incentive mechanisms have been tried and tested. Few of them have worked, and most of them have failed, but there is continuous re-iteration to make these mechanisms the best possible.
Unstoppable is a product with one simple mission, Replace the CEXs and bring everyone on-chain with their DeFi super app.
One of the main reasons people choose to transact on CEXs, despite the prior risks that have been made apparent (think FTX), is the superior liquidity.
For Unstoppable to effectively chip away at the CEX market share and eventually achieve their goal of replacing CEXs, they need to ensure that the platform has high liquidity.
To achieve this, Unstoppable has an innovative way of attracting liquidity, something we will walk you through in this article.
The Unstoppable DEX allows users to provide single-sided liquidity for Margin DEX trades. This mechanism is vastly different from traditional margin DEX platforms that have a shared liquidity pool against which traders trade.
Liquidity providers can provide single-sided liquidity in USDC or ETH to the borrowing pool. Since the LPs are only providing borrowable liquidity to a single pool, it is not a traditional liquidity pool, therefore, there is no impermanent loss for them. In addition, every time a trader borrows from this pool, they pay a borrow fee which goes to the LPs proportional to their share of the pool.
A very preferable endeavour for LPs.
Let’s run through a quick scenario.
If a trader wants to long ETH, they borrow USDC from LPs and buy ETH. If a trader wants to short ETH they borrow ETH from LPs and sell it for USDC.
This means that all positions on the platform are always backed 1:1 and long & short positions are completely independent. So there is no danger to the general system and LPs are not exposed to the traders’ PnL which means they do not have to pay out profits.
This simple yet elegant method does a lot of good for Unstoppable.
For starters, it’s a superior user experience. It is easy, convenient, and profitable to be an LP on Unstoppable. When you compare it to the more complex models of concentrated liquidity, shared liquidity pools for all assets, or even the upcoming Uni v4 which essentially forces out retail players, we can see that the scope for Unstoppable attracting users is huge.
If it’s easy and profitable, the users will show up. When the users show up and start providing liquidity, it starts off the chain reaction of growth. More liquidity means better execution for traders. More traders mean more volume. More volume means higher fees for LPs. These fees attract more LPs and more LPs means more liquidity and this cycle just keeps on going.
Safety Module LP’ing vs Base Module LP’ing
Now there is one risk that I haven’t spoken about yet, and that’s liquidation. Something we’re all too familiar with.
Although it is unlikely, there could be a scenario under which the liquidation system fails. In this scenario, positions are not liquidated in a proper and timely manner which means it is possible for the trader’s loss to be greater than the collateral they put up, which means the LPs will eat the loss.
To mitigate this, Unstoppable has the safety module LP.
When providing liquidity, users have the option when providing liquidity to choose between the base LP or the safety-module LP. They can simply choose the safety-module LP option. But why would they do this?
Well, you get higher rewards for taking on more risk, so why not right?
But what are these risks?
When providing liquidity with the safety module, you are essentially making the bet that the liquidation engine and its redundancy layers will work completely fine (you can even run your own liquidation bot to ensure the health of the system). In the event that it does fail, it is funds from the safety module that will be used to absorb the liquidation which means safety module LPs are eating that loss.
This scenario, however, is very unlikely. But since we’re in crypto, the most chaotic industry in the world, it’s best to prepare for as many scenarios as possible.
This ends the quick ELI5 on providing liquidity with Unstoppable and why it’s better. Stay tuned though because we will be coming up with a few more short articles similar to this one covering the other nitty-gritty details of what makes Unstoppable the platform to finally kill CEXs.
Watch this space.