Exploring the AMM Mechanism in the Solana Ecosystem

In the Web3 industry, decentralized finance ( DeFi ) products dominate the market. Among them, automated market makers ( AMM ) play a crucial role in significantly promoting innovation in the Web3 finance sector. This article will introduce several important AMM implementations in the Solana ecosystem, hoping to provide a reference for liquidity providers in choosing investment strategies.

Constant Product Market Maker(CPMM)

CPMM is the most basic implementation of AMM, applied in many products. Taking the constant product-based AMM launched by a certain platform as an example, its core principle is that the supply of two tokens in the pool has a fixed product: X * Y = k.

When users add liquidity to the pool, the system will automatically create a linked account for the user and issue LP Tokens to prove the user's share of the pool. When withdrawing liquidity, the corresponding LP Tokens will be destroyed.

The on-chain program of CPMM is developed using Anchor. When users exchange tokens, it triggers swap-related instructions. Taking the exchange between USDC and TRUMP tokens as an example, it can be done through the TRUMP-USDC pool.

In the swap operation, the specific amount of target tokens that can be exchanged is calculated using the constant product formula:

After the total amounts of TokenX and TokenY change, their product should remain constant. Through mathematical transformation, the calculation formula for the target token quantity can be obtained. It should be noted that this calculation does not include transaction fees, as the fees have already been deducted in the preceding logic.

Concentrated Liquidity Market Maker ( CLMM )

CLMM is similar to the V3 version of a well-known DEX, with multiple fee tiers for each token pair, allowing the creation of pools corresponding to those tiers. It inherits concepts such as ticks, multiple fee tiers, and concentrated liquidity.

Similar to CPMM, due to the characteristics of the Solana chain, CLMM does not need to deploy contracts separately for each pool, nor is there a concept of factory contracts.

CLMM allows liquidity providers to select a price range when injecting funds, and the funds are distributed only within the selected range. It is also possible to inject only one type of token, providing unilateral liquidity, similar to limit orders in traditional finance.

In general, pools with small price fluctuations tend to choose a small range; pools with large fluctuations choose a large range. This can help avoid the current price straying from the selected range and reduce impermanent loss.

Concentrated liquidity has increased the utilization of funds, but it also demands higher financial awareness from liquidity providers. If not handled properly, frequent on-chain fluctuations may lead to significant impermanent loss.

Dynamic Liquidity Market Maker ( DLMM )

DLMM is an AMM product launched by a certain platform, which is a variant of Uniswap V3 and is similar to CLMM. DLMM also allows funds to be concentrated within a certain range near the current price, but there are differences in the specific implementation and it offers some unique features.

DLMM introduces the concept of Bin, where the pool starts from a base price and exists as a Bin for every small Bin step. Trades within the same Bin enjoy zero slippage, which can greatly increase trading volume and success rates. Theoretically, liquidity providers can earn more trading fees.

Similar to CLMM, the tokens in the pool are distributed on both sides of the current price, and a single token only needs to provide unilateral liquidity. The currently activated Bin has two types of tokens, while other Bins are distributed on both sides, each only having a single token.

DLMM provides three liquidity strategies: Spot, Curve, and Bid Ask. The Spot strategy is the most versatile; Curve is suitable for pools with small price fluctuations, such as stablecoin pairs; Bid Ask is suitable for pools with large price volatility but requires frequent position adjustments.

Summary

As an important component of the Web3 financial sector, AMM promotes the popularization and development of decentralized finance through its unique mechanisms and innovations. With technological advancements and ecological improvements, AMM is expected to play a greater role in the future, further changing the landscape of traditional finance.