What Is Uniswap (UNI)?
It is a decentralized cryptocurrency exchange where transactions can be executed without intermediaries or third-party involvement. Instead, trades are facilitated using smart contracts – autonomous computer code that follows preset commands to function.
History of Uniswap
The Uniswap blockchain was introduced in 2018 by Hayden Adams, a former Siemens mechanical engineer.
- Provide liquidity or capital into liquidity pools. The funds in these pools can be retrieved for trading in exchange for a stated fee.
- Trade or swap decentralized tokens in pairs (native crypto-to-crypto or crypto-to-stablecoins).
- Swap-wrapped assets or tokens that are not native to the Ethereum protocol. For instance, the Wrapped Bitcoin (WBTC).
One distinctive feature of Uniswap is its open-source nature, welcoming contributions from anyone interested in its development.
Over time, the DeFi protocol has rolled out different versions of its decentralized trading services, with Version 3 (or V3) being the most recent.
Each iteration of Uniswap is designed to maintain uninterrupted operation, promising 100% uptime as long as the Ethereum blockchain remains functional.
Since its debut, Uniswap has steadily grown in prominence. During the cryptocurrency boom of 2021, it processed over $10 billion in weekly trades, amounting to an astounding $500 billion in annual trade volume executed on its decentralized exchange (DEX) platform.
However, this value has depreciated over the past two years due to the crypto market’s immense volatility and broader macro events.
Uniswap has come a long way since its deployment in 2018 by Uniswap Labs. Right from its series funding raise to multiple versions deployment, the protocol has become a mainstay in the DeFi platform.
Below is a brief snapshot of the Uniswap protocol.
|2018||Uniswap Labs, the development hub for Uniswap protocol, raised a $100,000 grant on November 1.|
|2018||Uniswap V1 was launched by Hayden Adams, founder of Uniswap Labs, on November 2.|
|2020||Uniswap V2 was launched and enables users to create trading contracts for two ERC-20 tokens.|
|2020||$UNI token launch on September 17.|
|2021||Uniswap V3 with more modifications, including but not limited to better security, non-fungible token (NFT) liquidity provision, oracle feed development, and new fee tiers, among several others.|
|2022||Uniswap Labs raised $165 million in a Series B funding round from investors led by Polychain Capital.|
What Makes Uniswap Unique?
Decentralized exchanges (DEXes) like Uniswap are viewed by many as the next generation of the financial market.
DEX platforms are trading hubs that do not rely on third-party or centralized entities to execute trades and hold investors’ funds.
Instead, trades are executed using smart contracts, while investors are responsible for the proper safekeeping of their funds.
One distinctive feature of DEX platforms is their user-friendliness (although a criticism is often that their front-end interfaces are lacking). Users are not required to create accounts or go through traditional sign-up processes. They simply need to connect their blockchain-based crypto wallets and can commence trading.
In addition, unlike centralized exchanges, where trading relies on buy and sell orders, DEX platforms utilize liquidity pools. These pools enable anyone to provide liquidity on trading pairs instead of trading against other market participants.
This unique approach is made possible through the automated market maker (AMM) or constant function market maker (CFMM) mechanism pioneered by the Uniswap protocol.
The AMM mechanism allows individuals to engage in peer-to-peer (P2P) trading without intermediaries. Instead of relying on a mediator or third party, individuals directly provide liquidity to pools managed by decentralized exchanges like Uniswap.
Smart contracts or algorithms set the market prices for these assets based on their supply and demand.
Impressively, Uniswap is also customizable. Users can swap various tokens or assets with no limitations imposed.
Besides trading native ERC-20 tokens, individuals can create custom assets and enable others to provide liquidity.
Due to this unique feature, many newly launched tokens on the Ethereum blockchain debut on the Uniswap platform before transitioning to a centralized exchange once a strong support base is established.
In return for providing liquidity, Uniswap users receive:
- A part of the trading fees (about 0.3% per trade).
- They also earn the native $UNI token as a reward.
There are hundreds of tokens on the Uniswap protocol. However, the most popular trading pairs are the USDC and Wrapped Bitcoin (WBTC) digital assets.
How Does Uniswap Work?
Uniswap relies on blockchain-powered smart contracts to ensure efficient trading of decentralized tokens on the Ethereum blockchain.
On the DEX protocol, pairs of digital assets are swapped for one another across several liquidity pools.
When users want to trade on the Uniswap protocol, they only need to connect their crypto wallet to the decentralized application. Then, they transfer an equivalent value of tokens to liquidity pools that support their selected trading pairs.
Once this is done, the smart contract computes the amount of the tokens in the liquidity pool. This figure is continually updated depending on the liquidity provided in that pool.
For instance, a user will need to input 1 ETH and 1 USDT in a liquidity pool that supports ETH/USDT trading pairs.
Subsequently, other users can trade these assets, incurring a trading fee in the process. Liquidity providers receive a portion of this trading fee, often in the native UNI token.
Like many other blockchain protocols, Uniswap transactions are publicly viewable and immutable once validated and added to the blockchain ledger.
Given its versatile infrastructure, users can utilize Uniswap in multiple ways:
- Create new liquidity pools: Leveraging on Uniswap’s non-upgrade and persistent smart contracts, users can create new tokens that work seamlessly with the ERC-20 token standard. Liquidity providers can add funds to these pools and participate in the DeFi ecosystem.
- Exchange assets in extant pools: Uniswap also enables users to directly trade different trading pairs by swapping one token for another in a permissionless way.
- Provide liquidity and earn rewards: Users can also provide capital to these pools on Uniswap. Capital deposits are recorded as liquidity provisions, while those who execute them are called liquidity providers (LPs). In return, LPs receive a part of the trading fee for each liquidity pool and the $UNI token.
- Vote on key network initiatives: $UNI token holders are viewed as part of the decentralized voting community on the Uniswap protocol. Hence, they vote on key network proposals or initiatives.
Uniswap’s Latest V3 Fee System
Over the years, the Uniswap protocol has introduced various iterations of its decentralized trading services. This is to improve the open-source dApp software and cater to the growing demands of the crypto market.
Hence, each version brings improvements focused on maximizing returns for traders and liquidity providers, reducing price slippage, and minimizing user risks.
The most recent version of the AMM protocol is V3, designed to offer LPs an efficient return on their capital.
A few of its features include a new fee tier where LPs are offered three fee tiers per trading pair they provide capital for.
The tiers are split into 0.05%, 0.3%, and 1%. All fee tiers hinge on the pair volatility in a particular liquidity pool. Given this, liquidity pools with high risks or volatility often reward LPs more.
Meanwhile, Uniswap’s V3 deployment became necessary following the high gas fees the Ethereum network charged at the time.
The UNI Token
The UNI token plays a crucial role in the operation of the Uniswap network. It was launched on September 17, 2020, the same year as the deployment of Uniswap V2.
This digital asset is also an ERC-20 token and is fungible – that is, 1 UNI can be exchanged for another. Besides serving as a payment mechanism, UNI is used for:
- Governance: Token holders vote on key network development proposals. Voting power is based on the amount of UNI a crypto wallet holds.
- Staking: UNI also secures the network from malicious cyber attacks. In return for doing this, Uniswap rewards stakers with newly minted UNI coins.
Since its launch, Uniswap has become a major stakeholder in the DeFi space, significantly boosting the Ethereum blockchain’s visibility.
The AMM DEX platform has played a crucial role in helping Ethereum maintain its status as a first-mover in the face of increasing competition.
Despite the emergence of other AMM protocols, Uniswap remains a dominant force in the burgeoning decentralized token swap ecosystem.
With its strong start and continued prominence, the platform appears poised to serve as a central hub for decentralized trades on the Ethereum blockchain in the coming years.