How IX Swap Is Solving the STO Liquidity Problem

Education
How IX Swap Is Solving the STO Liquidity Problem

TLDR: Uniswap pioneered the use of AMMs and liquidity pools to solve the liquidity problem of trading cryptocurrencies. IX Swap aims to bring the same innovative solution to the security token (STO) market to solve the industry’s similar liquidity problem and unlock further utilities for the underlying assets.

Overview

When IX Swap was established in 2021, it positioned itself as the “Uniswap” for security tokens. Those who are familiar with how Uniswap ignited a paradigm shift in addressing the liquidity problem of digital assets will understand how ambitious a project like this can be – but also very necessary and long overdue.

Security tokens face the same fundamental problem of liquidity that plagued cryptocurrencies before Uniswap introduced its automated market maker (AMM) protocol. Once it did, Uniswap effectively solved this liquidity problem by automating processes, leveraging liquidity pools, and doing away with human intermediaries through the use of smart contracts deployed on the Ethereum blockchain.

IX Swap is bringing the same bleeding-edge technology to the security token industry to solve its liquidity problem that has hindered the market from reaching its trillion-dollar potential.

What Are Security Tokens

Security tokens are essentially digital versions of traditional securities that are made possible through tokenization. They exist on a blockchain, they are issued via a security token offering (STO), and from a legal perspective, they are classified as “securities” so they are highly regulated just like its traditional counterparts.

As a result, security tokens offer the speed, ease, and versatility of blockchain-based digital assets, while still being covered by regulations for traditional securities that are designed to protect investors. These fundamental characteristics of security tokens also make them an ideal middle ground to bridge traditional financial markets with modern decentralized finance – a vision that IX Swap hopes to see one day between traditional finance and DeFi.

The introduction of blockchain technology has allowed for the tokenization of traditional securities into security tokens. This proved to be particularly significant and game-changing for the private market sector, where despite its great potential, has been hounded by liquidity and accessibility issues throughout the years.

Tokenization in Private Capital Markets

Private capital markets are investments made in assets that are not publicly listed or traded, such as private equity, private debt, and real estate. Over the years, more and more investors have been banking on the significant capital gains they can earn from investing in private capital markets, which have seen exponential growth as a result. 

In fact, private capital markets overshadow public markets in value and has a total market size of US$7.5 trillion at present, which is estimated to grow to US$15 trillion by 2025. 

Despite this great potential, private capital markets are oftentimes illiquid and difficult to access. By tokenizing private assets and transforming them into security tokens, it helps unlock the value inherent in the asset that would not be possible in traditional markets, particularly when it comes to liquidity, accessibility, and cost effectiveness.

However, the security token market only represents 0.014% or around US$915 million out of the total market size of private markets right now. Clearly, we still have a long way to go in tokenizing private assets but for the assets that have already been tokenized, we also have to address another level of liquidity challenge.

For this reason, we need to look at how Uniswap addressed the liquidity issue in the digital asset sector.

Liquidity Landscape of Digital Assets

Prior to the introduction of automated market makers by Uniswap, digital assets traded on centralized exchanges faced the same liquidity problem as traditional private securities, while in decentralized exchanges (DEX), their trading volume was even almost non-existent. 

When Uniswap implemented its AMM protocol and introduced the concept of liquidity pools to the cryptocurrency industry, the total monthly DEX volume surged from US$39.5 million to US$43.5 billion within a span of a year, growing by an impressive 110,100 %. 

By combining blockchain technology with the genius of complex mathematical algorithms to solve the very real pain point of liquidity when trading cryptocurrencies, Uniswap got it down to a tee when they launched their first automated market maker (AMM) protocol back in 2018.

So what is Uniswap and how did they exactly solve the liquidity problem of digital assets? 

Uniswap Explained

Uniswap is a world-leading cryptocurrency exchange that runs on the Ethereum blockchain. What sets them apart from other exchanges is that Uniswap was the first decentralized platform to successfully implement an AMM protocol to facilitate the trading of digital assets. 

That is a very big deal – and here’s why.

Centralized exchanges utilize an order-book model that requires proper matching of buy and sell orders between traders to execute trades, and they rely heavily on market makers to provide market liquidity

Liquidity, to recap, refers to the efficiency or ease with which an asset can be  converted into cash without affecting its market price. With a liquid asset, there will be ready buyers willing to pay its market price. For an illiquid asset, this means there are only a few buyers willing to pay for its market price, and as a result, owners will have a difficult time selling their assets. 

What Is a Market Maker (MM)?

This highlights the importance of market makers in centralized exchanges. They are essentially high-volume investors (a company or an individual) that provide crucial liquidity to the asset in an exchange by quoting to buy and sell that asset simultaneously. 

This setup ensures that a buyer or a seller in the form of the market maker is always available to buy or sell the asset themselves in case there are no actual buyer or seller. By manually initiating trades, market makers create trading activity that facilitate market liquidity as a result.

However, market makers give centralized platforms a very human element that makes them susceptible to conflict of interest in order execution, possibility of market manipulation, latency in price discovery, and slippage. On the other hand, without market makers, centralized exchanges would be faced with critical liquidity problems.

What Is an Automated Market Maker (AMM)?

This is where Uniswap made their name in the trading game and why they hit the ground running right from the get-go. With their AMM protocol, they removed the human element of market makers and used smart contracts to automate the price matching or price discovery process, all while ensuring that there will always be market liquidity.

In an AMM model, the order book is replaced with liquidity pools, market liquidity is provided by users who contribute their own tokens to these pools as liquidity providers, and the asset price is determined by a mathematical formula – all set in a smart contract with no human intermediaries involved.

Through the contributed tokens supplied by liquidity providers, Uniswap’s AMM protocol creates a fund that is used to execute all trades in the platform. As a result, traders don’t have to wait for an opposite party to match and complete a trade, as they are interacting directly with the liquidity pool via the smart contract.

What Does the Different Versions of Uniswap Mean?

By successfully implementing their AMM protocol, Uniswap solved the liquidity problem that has hounded centralized exchanges where cryptocurrencies are being traded.

As their user base increase over time, Uniswap released three (3) successive versions that updated their AMM protocol:

Uniswap Version Table V3

Uniswap’s Liquidity Continues to Dominate Rival CEXes

With the benefit of hindsight, we can see that Uniswap’s contribution to solving the industry-wide liquidity problem of centralized cryptocurrency exchanges is nothing short of revolutionary.

Uniswap fundamentally addressed and solved the very glaring liquidity problem of digital assets that plagued centralized exchanges for years and today, they continue to do so and remain ahead of their time.

In a recent May 2022 report entitled “The Dominance of Uniswap V3 Liquidity” by Gordon Liao and Dan Robinson, they compared the liquidity on Uniswap V3 with that of centralized exchanges across a set of large-cap digital asset pairs. 

In their findings, they pointed out that Uniswap V3 has substantially higher liquidity, as measured by market depth, compared to the biggest centralized exchanges in spot markets. They also highlighted that Uniswap V3 had significantly higher market depth throughout the past several months than centralized exchanges in spot trading, with higher liquidity observed for large-cap pairs such as ETH/USDC compared to Binance and Coinbase.

In fact, the liquidity advantage of Uniswap V3 grows with the expected price impact, making it more advantageous to execute larger trades on the platform than with centralized exchanges.

“Uniswap V3, deployed less than a year ago, has gained dominance over traditional forms of central limit order books in providing a trading venue for deep liquidity in digital assets. As more passive and diverse capital sources are unlocked through decentralized AMMs,” the report concluded.

The report highlights a very optimistic outlook for the Uniswap protocol, particularly with its potential to not only supplement but also directly compete with traditional exchanges in facilitating both deeper and more stable liquidity in the cryptocurrency industry.

How IX Swap Is Living Up to Uniswap’s Footsteps

With the  launch of STO Swaps, IX Swap’s decentralized exchange for security tokens that leverages Uniswap’s game-changing AMM protocol and liquidity pools, we are well on our way in our mission to bring much-needed liquidity into the security token industry.

As we work to add more security tokens to our growing list and partner with more companies that share our vision of democratizing access to investments and opening new opportunities for clients and investors alike, we look forward to seeing more tokenization projects and more real-world assets brought on-chain that would eventually bridge the gap between CeFi and DeFi.

References:


About IX Swap

IX Swap is a next-generation platform that leverages DeFi services backed by regulatory compliance to facilitate safe and convenient issuance, listing, and trading of security tokens and fractionalized NFTs.

By bridging the gap between traditional finance and innovative blockchain-based solutions, IX Swap is paving the way in democratizing access to traditional financial markets that have never been done before.

Announcement | Telegram | Twitter | LinkedIn | YouTube | Medium | Instagram

More Articles