Hey guys :) I’m back with another comprehensive Q&A piece, this time for the popular decentralized on-chain token swap protocol – Uniswap (UNI).
Uniswap is a decentralized protocol for automated liquidity provision on Ethereum. It enables users to seamlessly swap tokens for one another in a decentralized fashion on-chain.
As of September 30, 2020, Uniswap is ranked as the largest DeFi protocol in terms of locked USD value with more than $2 billion locked in.
Now, before we dive in, the following piece is similar to my latest articles on Curve (CRV), Nexus Mutual (NXM), and FTX (FTT), so if you haven’t already seen those, be sure to check them out as well.
Hope you enjoy!
The list of Q&A is kind of long so first comes the list of questions that I have prepared the answers to:
- What is Uniswap?
- Who and When Created Uniswap?
- What is $UNI Token Used For?
- How Was $UNI Distributed?
- What Are Uniswap Pools?
- What does the process of providing liquidity look like?
- What is Impermanent Loss?
- What's the difference between Uniswap and a regular orderbook-based DEX?
- Where to Store $UNI?
- How to Buy & Sell UNI?
- Alternative Way to Get $UNI
1. What is Uniswap?
Uniswap website homepage
Uniswap is a decentralized on-chain trading protocol on Ethereum that uses liquidity pools and a form of Automated Market Makers (AMMs) instead of order books. The protocol enables users to exchange ERC-20 tokens on Ethereum in a non-custodial, trustless, and decentralized way.
The protocol prioritizes decentralization, censorship resistance, and security while operating with open-source software licensed under GPL.
With Uniswap, anyone can quickly swap between ETH and any ERC-20 token without having to transfer tokens out of their wallet, hence non-custodial. As well, users do not have to verify their identity and the protocol has no borders, meaning anyone anywhere in the world can use it.
In addition to swapping between tokens, Uniswap enables anyone to earn the protocol’s trading fees by supplying any amount of liquidity. If you supply the Uniswap protocol with liquidity, you are considered to be a Liquidity Provider (LP) and earn fees represented as LP tokens which can be redeemed for their underlying crypto assets at any time.
Uniswap Liquidity Providers can provide liquidity to any pool (ie. market) available on Uniswap and can even create their own liquidity pool by supplying an equal value of ETH and an ERC-20 token.
That said, Uniswap’s liquidity pools solve decentralized exchanges' liquidity problem by allowing the exchange to swap between tokens without relying on order books (ie. buyers and sellers) to create that liquidity.
All in all, Uniswap is revolutionizing the way people trade ETH and ERC-20 tokens and is thus far the most successful decentralized exchange (DEX) protocol out there.
2. Who and When Created Uniswap?
Uniswap Founder, Hayden Adams
Prior to founding Uniswap, Hayden worked as a Software Engineer for Siemens, where he performed engineering simulations and design exploration for clients in the automotive and aerospace industries.
Prior to that, Hayden worked at Vista Wearable Inc. as a Mechanical Engineering Intern and also served as a Researcher at Columbia University.
As seen from Hayden’s experience above, his professional life was off to a good start. That is until July 2017, when he was laid off from his Engineering position at Siemens. While feeling down and directionless, his friend Karl Floersch who worked at the Ethereum Foundation, introduced him to Ethereum and got him coding smart contracts.
Hayden began building the Uniswap proof-of-concept through October to November. From that point on, he and his friend Karl attended numerous Ethereum meetups and events where they brought Uniswap to the light and got the Ethereum community involved.
From that point on Uniswap’s code kept getting better and better and the protocol evolved to what it is today – the number 1 decentralized exchange (DEX) protocol built on Ethereum.
Moreover, Uniswap V2 launched in May 2020, enabling direct ERC-20 to ERC-20 swaps and adding a host of technical improvements. Now there is already talk of a Uniswap V3 launch that will introduce second-layer scaling solutions such as Optimism’s Optimistic Rollups.
That said, Uniswap’s future is looking bright.
3. What is $UNI Token Used For?
Uniswap (UNI) token logo
Uniswap’s native cryptocurrency is $UNI and it’s a governance token for the Uniswap protocol.
As a governance token, $UNI grants its hodlers governance rights and enables them to participate in the governance of the Uniswap protocol.
Initial $UNI governance parameters are as follows:
- 1% of UNI total supply (delegated) to submit a governance proposal
- 4% of UNI supply required to vote ’yes’ to reach quorum
- 7 day voting period
- 2 day timelock delay on execution
As a $UNI token holder, $UNI can be delegated and used to vote on various protocol upgrades, changes, and improvements through the governance portal.
3. a) How Was $UNI Distributed?
$UNI token allocation (source)
Uniswap launched its $UNI governance token in September 2020 with a 400 UNI airdrop to anyone who had used the protocol before September 1.
A total of 1 billion UNI have been minted at the genesis and will be distributed over the course of 4 years.
$UNI Token Allocation
The initial four year allocation is as follows:
- 60.00% - (600,000,000 UNI) to Uniswap community members
- 21.266% - (212,660,000 UNI) to team members and future employees with 4-year vesting
- 18.044% - (180,440,000 UNI) to investors with 4-year vesting
- 0.69% - (6,900,000 UNI) to advisors with 4-year vesting
Once the 4 year distribution period of UNI is over, a perpetual inflation rate of 2% per year will commence, ensuring continued participation and contribution to Uniswap. The inflationary UNI will be rewarded to liquidity providers and to those who contribute value to the protocol.
4. What Are Uniswap Pools?
Uniswap liquidity pool (source)
Uniswap pools are smart contracts that hold liquidity reserves (or liquidity pools) that traders can trade against. These reserves (Uniswap liquidity pools) are funded by liquidity providers (LPs).
Anyone can become a Uniswap liquidity provider by depositing an equivalent value of two tokens in the pool. These can either be ETH and an ERC-20 token or two ERC-20 tokens. (ie. 2 ETH & 710 DAI, or 1 LINK & 42 BAT, etc.)
To incentivize people to contribute liquidity and become an LP, Uniswap rewards liquidity providers with trading fees which are distributed according to their share of the pool.
Also, some pools will reward LPs with $UNI tokens in addition to trading fees. Currently, ETH/USDT, ETH/USDC, ETH/DAI, and ETH/WBTC pools reward LPs with UNI.
All in all, Uniswap pools is what sets the Uniswap protocol apart from the traditional order book architecture of digital exchange.
4. a) What does the process of providing liquidity look like?
Providing liquidity to a Uniswap pool to start earning trading fees and rewards is quick and easy.
Here’s how it works:
- Simply go to the Uniswap App in your internet browser.
- Connect your Ethereum-based Web3 wallet which has the tokens you want to provide liquidity for. Make sure you have some ETH in there as well to pay gas fees (they can be quite high sometimes).
- Click the “Pool” button in the top left corner of the screen and you’ll see this screen:
- Press the “Add Liquidity” button, and you’ll come to a page that looks like this:
- Simply select the two tokens you would like to add liquidity for. These can either be ETH and an ERC-20 token or two ERC-20 tokens. For example, say you want to provide liquidity for 10 DAI tokens along with ETH. The page will then look like this:
- Press the “Approve DAI” button and then you will have to approve the transaction on your Web3 wallet where the tokens are stored. For example, when using the Metamask wallet, it will look like this:
- Once the transaction goes through, a final confirmation window will pop up that tells you how much liquidity you have provided and your share of the pool.
- Your liquidity stats and LP token rewards (which can be redeemed for crypto-assets) can be viewed on the Uniswap “Pool” page.
5. What is Impermanent Loss?
Impermanent loss is a temporary loss of funds that can occur when providing liquidity. It’s essentially the difference between holding an asset versus providing liquidity in that asset. In other words, it’s the opportunity cost of pooling a token that appreciates in price.
For instance, say a Liquidity Provider (LP) provides liquidity for ETH:DAI pool. If the price of ETH increases on the market, then it's not immediately effective in the pool. The price difference of ETH gets rebalanced to its current price on the market through arbitrage traders adding DAI to the pool and removing ETH until the ratio reflects the accurate price.
In this case, the impermanent loss is essentially the opportunity cost of pooling a token that appreciates in price. Alternatively, an impermanent loss may also be amplified when a pooled token depreciates in price.
The reason impermanent loss is just “impermanent” is because the loss only becomes permanent if the LP withdraws their liquidity from the pool. If the LP keeps their liquidity in the pool and the pooled tokens return back to the price they were when they were added to the pool, the effect is mitigated. However, that's rarely the case.
If you are still confused by this explanation, a good explainer video can be seen here:
6. What's the difference between Uniswap and a regular order book-based DEX?
The difference between Uniswap and a regular order book-based DEX is that Uniswap utilizes on-chain liquidity pools and a design called Constant Product Market Maker, which is a variant of a model called Automated Market Maker (AMM).
Order book-based DEX
Order book-based DEXes rely on buy and sell orders around a given token. A buyer places a buy order (bid on the price) and a seller places a sell order (ask on the price). These different price points make up the exchange’s order book with the “top of the book” marking whatever the lowest ask and the highest bid prices are at a particular time.
These types of order book-based exchanges do not work well for illiquid markets and are vulnerable to market manipulation and front-running.
Constant Product Market Maker DEX
Uniswap’s Constant Product Market Maker-based DEX relies on “algorithmic agents,” or “money robots” powered by smart contracts, rather than order books.
The main aspect of this type of DEX is its liquidity pools, in which users (liquidity providers) supply assets too. Then, instead of users submitting bid and ask orders, Uniswap’s finely-tuned algorithm sets prices and makes markets.
7. Where to Store $UNI?
Uniswap (UNI) is an ERC-20 token residing on top of the public Ethereum blockchain. That said, you can store UNI in any ERC-20 token supported wallet.
However, the best wallets for storing UNI are non-custodial Web3 wallets that provide seamless access to the best DeFi applications, like Uniswap. That said, DeFi wallets are the best for storing UNI because the token is widely used and supported in the Ethereum-DeFi ecosystem.
Popular Uniswap (UNI) Wallets:
- Trust Wallet (mobile)
- Argent (mobile)
- Coinbase Wallet (mobile)
- Ledger Nano S (hardware)
- Metamask (web)
In addition to the above-listed wallets, Uniswap (UNI) can be stored on a wide variety of other reputable wallets supporting ERC-20 tokens.
8. How to Buy & Sell UNI?
Uniswap trading interface (source)
Uniswap (UNI) can be bought and sold on a peer-to-peer (P2P) basis but the most popular way to buy, sell, or trade UNI is through centralized and decentralized cryptocurrency exchanges.
You can buy UNI with cryptocurrency or fiat currency at the following top DEXes and exchanges. In most cases, you will be able to buy UNI with BTC, ETH, or stablecoins.
- Uniswap - WETH, USDC, etc.
- Binance - BTC, USDT, BUSD, BNB, USD
- OKEx- USDT, BTC, ETH, USD
- Huobi Global - USDT, BTC, ETH
- Gemini - USD
In addition to the exchanges listed above, Uniswap (UNI) is also traded on a wide variety of other exchanges and platforms that enable people to buy, sell, or trade cryptocurrencies.
9. Alternative Way to Get $UNI
Uniswap $UNI liquidity mining pools (Source)
An alternative way of acquiring $UNI (different from buying it on an exchange), is through liquidity mining, otherwise known as “farming” $UNI.
The initial $UNI token liquidity mining program went live on September 18, 2020, and will run until November 17, 2020.
Users who provide liquidity to the following four pools on Uniswap v2 will receive $UNI rewards which are proportionately allocated to LPs based on how much liquidity they provide.
The following four pools on Uniswap v2 support $UNI liquidity mining:
A total of 5,000,000 UNI will be allocated per pool, which roughly translates to 83,333 UNI per pool per day with a 13.5 UNI per pool per block (14s blocktime).
Hope you enjoyed that read :) Let me know if I have missed something in the comments.