What Is an Automated Market Maker (AMM)?
An Automated Market Maker (AMM) is the protocol behind many decentralized exchanges (DEXs). Instead of the old-school approach where buyers and sellers place orders and wait to be matched, an AMM uses code to set prices and handle trades automatically. No order book. No human middleman. Just math.
At the heart of it all is the liquidity pool. This is a smart contract that holds a stash of two or more tokens. When you trade on an AMM, you’re not haggling with another person; you’re swapping directly with that pool.
The liquidity comes from regular users, called liquidity providers (LPs), who deposit equal values of two tokens (say, ETH and USDC). In return, they get a cut of the trading fees.
Key Characteristics of AMMs:
No Order Book: AMMs remove the need for a traditional order book, which can be slow and illiquid for new or smaller assets.
Permissionless Access: Anyone can become a liquidity provider or a trader on an AMM without needing to register, complete KYC forms, or ask for permission.
Constant Product Formula: Many AMMs, such as Uniswap, use a simple formula like x∗y=k, where x and y represent the quantities of the two tokens in the pool, and k is a constant. This formula ensures a continuous supply of both assets, adjusting the price as trades occur.
Efficiency and speed: Trades on an AMM
