A household name in DeFi is Uniswap, an AMM pioneered by the gigabrain that is Hayden Adams. Although Uniswap wasn’t the first DEX on the block, they pioneered the constant product formula (x*y=k) which really put DEXs on the map. Since then, on-chain transaction volume surged and Uniswap now dominates 60% of on-chain DEX volume.
But as things start to scale, problems start to emerge. While Uniswap V1 and V2 were good, they were nowhere near good enough for players looking to provide large sums of liquidity. Under these initial versions of Uniswap, liquidity providers (LPs) would simply provide liquidity in the two tokens of their choice and that’s it. Liquidity would be provided across the full range of prices.
As time passed, people learned that while this is easy, it is wildly capital inefficient. Therefore, Uniswap V3 was born.
The marquee feature of V3 was the concept of concentrated liquidity. Sounds complicated, doesn’t it? But don’t fret, I’ll quickly explain what it is for the uninitiated.
The purpose of concentrated liquidity is for LPs to be able to concentrate the liquidity they provide within a certain price range. Hence the name concentrated liquidity.
As I said earlier, previously LPs would simply provide liquidity to the AMM and it would be deployed across the full range of prices. So if you were providing liquidity in the ETH/USDC pool, for example, liquidity would theoretically be deployed in the 0 to infinity range. Wildly inefficient.
With concentrated liquidity, you can pick the range where all your liquidity is deployed. Suppose you think ETH will trade between $1700-$1800 for a substantial amount of time. You can deploy liquidity within that range and only when the price is within that range will you earn fees. The tighter the range the higher the fees you earn.
Since the creation of Uniswap V3, the product has been licensed. This meant other devs couldn’t fork the product due to potential legal issues. However, in April 2023, this license expired, which means it's open season. Anyone can now fork Uni V3. The expected outcome is a concentrated liquidity boom across DeFi.
This creates the perfect playing field for Orange Finance.
But why Orange Finance?
I don’t know if you’ve personally tried to LP on Uni V3, but being a concentrated liquidity LP is incredibly hard.
You have to constantly rebalance your positions, adjust your ranges, predict where the price will go, anticipate volatility, identify key ranges, stay aware of predatory JIT liquidity traders, and constantly stay on top of all your positions. Not to mention you have to do all this with near perfect execution and then take into account gas fees which can often be extremely expensive if you make multiple transactions.
The bottom line is that if you aren’t one of the gigabrain MEV femboys, it is very difficult to remain profitable being a Uni V3 LP.
This is where Orange Finance comes in to save the day. Rather than you having to manually manage your LP positions, you can simply deposit your funds with Orange Finance and they will run their automated LP strategies to generate that sweet passive income for you.
There’s a lot more to this product so without further ado, let's get into it.
Orange Finance: Overview
Orange Finance is an automated liquidity manager. On their platform, they will have different vaults that execute different strategies and a user can choose which one they would like to deploy their money in. It is an L2 native protocol to minimize gas costs but will be deployed on multiple L2 networks to maximize their reach.
Now I know what you may be thinking, what’s so special about Orange Finance? There are many liquidity managers that already exist and have multiple millions in TVL, why should I care about Orange Finance?
Well, you’re partially right in thinking that. There ARE a ton of players in this space. You have the likes of Arrakis, Popsicle Finance, Charm, Gamma Strategies, and Mellow. All of them do a really good job. Using them you get anywhere between 2%-189% APR on your money.
This issue is that most of the time, the APR you’re getting is on the lower side of the above-mentioned range. You only get high returns when the strategy uses very tight ranges. These strategies are however becoming increasingly rare due to impermanent loss and range adjustment costs.
Therefore, for simplicity’s sake, most liquidity managers simply have strategies that use very wide ranges to give you a low yet consistent return while minimizing the effects of impermanent loss and the costs of constant range readjustments.
While this is okay, it is far from optimal. They are nowhere near close to maximizing capital efficiency.
What makes Orange Finance a game changer is that their strategies can play the tight ranges for the higher returns, but offset impermanent loss and other costs through delta hedging.
There are 4 key elements to the strategies developed at Orange Finance:
· Delta hedging
· Smart liquidity
· Fungible liquidity
The most important part of any strategy is determining the optimal price range for a liquidity pair. Orange Finance achieves this using their Smart Liquidity feature. It essentially uses something called a GARCH model to analyze historical data of volatility, this data is then run through what they call a Monte Carlo simulation. This simulation then gives them an optimal price range for the liquidity pair.
Even though Orange Finance can identify the optimal ranges with their smart liquidity feature, it is their Delta Hedging that allows these positions to consistently make money by offsetting impermanent loss and rebalancing costs.
In general, when you take a LP position on Uni V3, you are delta positive. A delta positive position is one where the LP gains only if the price of the token goes up. So the vault cannot benefit from bearish liquidity pairs. To hedge this, Orange creates a delta negative position by shorting ETH on AAVE which helps them offset impermanent loss and other costs.
With the strategies now set, Orange Finance defines a set of parameters for the strategy which when hit will trigger the auto-rebalancing feature to ensure that the position stays within the optimal range at all times.
An added kicker is that Orange Finance LP positions are ERC-20 Tokens rather than ERC-721 tokens. Hence, they’re fungible liquidity positions which allow holders to use them in other DeFi protocols for whatever purpose they choose, like staking them to earn yield or depositing them as collateral to borrow another coin.
Now I know just raved on about how the delta hedging feature is the key differentiator for Orange Finance. However, upon testing their first product (more on this later) they realized something. Delta hedging is good and effective but it is still not the most optimal solution out there.
The narrow range + delta hedging strategy works well, and as the chart below shows, it has consistently outperformed a simple holding strategy.
What this graph also shows you is that the portfolio value is in a steady downtrend. Nobody wants that. The reason for this downtrend is because narrow ranges require constant rebalancing which means the hedging is also adjusted. With this adjusting and re-adjusting, costs are incurred. Over time these costs add up and the result is a down-trending portfolio value.
So what’s the solution? Well anon, the answer is Xiao Li.
Xiao Li stands for redirecting energy upwards, and the introduction of hedge control does exactly that.
You see, the hedge of taking a short ETH position makes sense in certain conditions, but not in all conditions. Hence, Orange Finance has parameters to identify whether market conditions are bullish or bearish. If it’s bearish then the strategy will have a higher hedge percentage, but if it’s bullish then the strategy will have a lower hedge percentage.
A hedge percentage of 0% means the position is not hedged and a hedge position of 100% means the position is not short ETH.
It’s essentially a valve which adjusts the percentage of hedge required for a strategy given the market condition. So rather than aiming to always stay delta neutral, the focus is on increasing portfolio value.
The results of such a strategy looks something like this.
Okay so by now you hopefully understand what Orange Finance is all about. But let’s make it a bit easier by introducing their first product.
The Alpha Orange Vault
This vault provides liquidity in the ETH/USDC pool on Uni V3 0.05% tier.
Orange Finance only accepts single-sided liquidity into this vault. So users wanting to take part will have to deposit USDC into this vault and Orange Finance does the rest.
The deposited USDC will do 2 things. It will first buy some amount of ETH so liquidity can be provided in a 1:1 ratio, and the other portion of the USDC will be directed to AAVE as collateral to borrow ETH and create a short position.
The Smart liquidity feature then runs its models to figure out the optimal range and the vault then deploys the capital. When doing this, the protocol has certain thresholds in place that act as a stop-loss. For the Alpha version, when the threshold is hit, an off-chain execution system executes the stop-loss operation. Then, within 24 hours the dev team analyzes market conditions and then decides how to deploy liquidity again.
In the alpha version, the dev team intervention makes the process semi-automatic, but when the beta version and final version launch, this process will be fully automated.
For the visual learners out there, the architecture of the product looks a bit like this.
The team did a one-week analysis on the performance of this vault and let me tell you, the results are pretty promising.
The analysis was done in the first week of February. From the 2nd to the 9th of Feb. The price of ETH declined 4.5% that week from $1,673 to $1,597.
The vault's liquidity grew from 5k USDC to 5023.40 USDC giving a projected APR of 24.336%.
There were 3 rebalances during this time which caused a loss of $256, but the hedging strategy managed to offset $125 of that reducing the loss to $131.
The team also analyzed the performance of other positions over the same time, and the Orange Vault outperformed them.
Holding USDC & ETH in a 1:1 ratio resulted in a loss of $114 giving a final value of $4,886.
An identical LP position that was not hedged resulted in a $100 loss giving a final value of $4,900.
The Orange Vault reigned supreme with a final value of $5,023.
Now I know you might be licking your chops with eagerness to deposit into this vault. But unfortunately, it's not open to the public as yet. As I mentioned, the product is still in alpha. However, if you become a part of the Alpha Orange Crew, you can be one of the early depositors in this vault.
Alpha Orange Crew
Being a part of the Alpha Orange Crew gives you the Alpha role in Discord which gives you access to exclusive info from the team. But most importantly, it allows you to be one of the early depositors in the Alpha vaults.
Who knows, down the line you will probably get a lot of perks and benefits for being one of the early contributors to the protocol.
To join the Orange Alpha Crew all you have to do is fill in this application.
Orange Finance is still a fairly new project that is yet to launch. Nonetheless, they have managed to garner a tight-knit and intelligent community.
They currently have 1.2k followers on twitter and 945 members in Discord. You’re still early anon.
The twitter is primarily used to share content and information about the project and the Discord is where the community discussions take place. Like any tight-knit crypto community, the conversations are often serious, and product related as everyone wants to see Orange win. There is of course the occasional banter that takes place.
The team is very active and responsive but if you want the real experience, then you need the alpha role in the discord. That is where you get the real exclusive info, and the discussion is often very fruitful.
The automated liquidity management sector is incredibly important because as we all know, all that matters is liquidity. Unfortunately, not many participants are fit to consistently and profitably provide liquidity. Hence, this sector fills an important gap.
Orange Finance with its new features takes it one step further and heats up competition in the sector. It will likely lead to a race of continuously increasing efficiency and profitability which ultimately benefits the overall DeFi ecosystem. Not to mention how much more interesting it will get now that Uni V3 fork szn is upon us.
Just before I end this, I know some of you may be wondering why I didn’t mention any token. That’s because there is no token right now. However, as the protocol matures and grabs a lot more TVL, the team does have plans to launch a token. So keep your eyes peeled for that one.