Introduction
1inch is the crypto exchange aggregator named after Bruce Lee’s famous knock-out blow. The one-inch punch was said to vanquish any opponent, instantly – such was the ambition of 1inch founders when they launched their project. But what exactly is an exchange aggregator, and how can it benefit you? Let’s take a closer look at 1inch, and why it’s got people talking.
What exactly is 1inch?
Simply put, 1Inch is a DEX aggregator that searches through dozens of decentralized crypto exchanges to allow you to find the most favorable exchanges for your tokens.
The most complex and sometimes frustrating is the task of finding the best exchange rates and lowest transaction fees across the different DEXs. That’s because the prices of tokens on different DEXs often vary, and so do the fees.
This is where 1inch comes in. Think of it like a hotel aggregator platform such as Trivago or Kayak. A quick search for a room on these platforms can bring up the best rates across different travel websites. And you can book the hotel of your choice at the best rate from the same portal instead of switching to another website.
Now, replace the hotels with crypto tokens and travel websites with DEXs, and you will have 1inch.
What Are Automated Market Makers (AAMs)?
Automated market makers (AMMs) are part of the decentralized finance (DeFi) ecosystem. They allow digital assets to be traded in a permissionless and automatic way by using liquidity pools rather than a traditional market of buyers and sellers. AMM users supply liquidity pools with crypto tokens, whose prices are determined by a constant mathematical formula. Liquidity pools can be optimized for different purposes, and are proving to be an important instrument in the DeFi ecosystem.
AAMs
Liquidity Pools and Liquidity Providers
Constant Product Formula
Automated Market Maker Variations
Automated market makers (AMMs) allow digital assets to be traded without permission and automatically by using liquidity pools instead of a traditional market of buyers and sellers. On a traditional exchange platform, buyers and sellers offer up different prices for an asset. When other users find a listed price to be acceptable, they execute a trade and that price becomes the asset’s market price. Stocks, gold, real estate, and most other assets rely on this traditional market structure for trading. However, AMMs have a different approach to trading assets.
AMMs are a financial tool unique to Ethereum and decentralized finance (DeFi). This new technology is decentralized, always available for trading, and does not rely on the traditional interaction between buyers and sellers. This new method of exchanging assets embodies the ideals of Ethereum, crypto, and blockchain technology in general: no one entity controls the system, and anyone can build new solutions and participate.
1. Liquidity Pools and Liquidity Providers
Liquidity refers to how easily one asset can be converted into another asset, often a fiat currency, without affecting its market price. Before AMMs came into play, liquidity was a challenge for decentralized exchanges (DEXs) on Ethereum. As a new technology with a complicated interface, the number of buyers and sellers was small, which meant it was difficult to find enough people willing to trade on a regular basis. AMMs fix this problem of limited liquidity by creating liquidity pools and offering liquidity providers the incentive to supply these pools with assets. The more assets in a pool and the more liquidity the pool has, the easier trading becomes on decentralized exchanges.
On AMM platforms, instead of trading between buyers and sellers, users trade against a pool of tokens — a liquidity pool. At its core, a liquidity pool is a shared pot of tokens. Users supply liquidity pools with tokens and the price of the tokens in the pool is determined by a mathematical formula. By tweaking the formula, liquidity pools can be optimized for different purposes.
Anyone with an internet connection and in possession of any type of ERC-20 tokens can become a liquidity provider by supplying tokens to an AMM’s liquidity pool. Liquidity providers normally earn a fee for providing tokens to the pool. This fee is paid by traders who interact with the liquidity pool. Recently, liquidity providers have also been able to earn yield in the form of project tokens through what is known as “yield farming.”
2. Constant Product Formula
AMMs have become a primary way to trade assets in the DeFi ecosystem, and it all began with a blog post about “on-chain market makers” by Ethereum founder Vitalik Buterin.
The secret ingredient of AMMs is a simple mathematical formula that can take many forms.
The most common one was proposed by Vitalik as:
tokenA_balance(p) * tokenB_balance(p) = k
and popularized by Uniswap as: x * y = k
The constant, represented by “k” means there is a constant balance of assets that determines the price of tokens in a liquidity pool. For example, if an AMM has ether (ETH) and bitcoin (BTC), two volatile assets, every time ETH is bought, the price of ETH goes up as there is less ETH in the pool than before the purchase. Conversely, the price of BTC goes down as there is more BTC in the pool. The pool stays in constant balance, where the total value of ETH in the pool will always equal the total value of BTC in the pool. Only when new liquidity providers join in will the pool expand in size. Visually, the prices of tokens in an AMM pool follow a curve determined by the formula.
In this constant state of balance, buying one ETH brings the price of ETH up slightly along the curve, and selling one ETH brings the price of ETH down slightly along the curve. The opposite happens to the price of BTC in an ETH-BTC pool. It doesn’t matter how volatile the price gets, there will eventually be a return to a state of balance that reflects a relatively accurate market price. If the AMM price ventures too far from market prices on other exchanges, the model incentivizes traders to take advantage of the price differences between the AMM and outside crypto exchanges until it is balanced once again.
The constant formula is a unique component of AMMs — it determines how the different AMMs function.
3. Automated Market Maker Variations
In Vitalik Buterin’s original post calling for automated or on-chain money markets, he emphasized that AMMs should not be the only available option for decentralized trading. Instead, there needed to be many ways to trade tokens, since non-AMM exchanges were vital to keeping AMM prices accurate. What he didn’t foresee, however, was the development of various approaches to AMMs.
Although Automated Market Makers harness a new technology, iterations of it have already proven an essential financial instrument in the fast-evolving DeFi ecosystem and a sign of a maturing industry.
How It Works
All existing AMMs use swap fees to earn profits for their liquidity providers. (The swap fees are configurable in Balancer for each pool, whereas Uniswap charges 0.3% and Curve currently charges 0.04% per swap.) Liquidity providers are ultimately compensated via these fees. But if the pricing function significantly misprices the assets in the pool, as might happen after a sudden exogenous price crash, liquidity providers lose potential profit to arbitrageurs who purchase the mispriced assets.
An AMM can thus maximize its profit in one of two ways: maximizing trading fees, or minimizing arbitrageur profits. Mooniswap seeks specifically to pursue the latter strategy: by introducing virtual balances, arbitrageurs are less able to profit on temporarily mispriced pools, leaving more profit for liquidity providers.
All AMMs with constant product pricing functions offer worse slippage as the trade size increases. Other AMMs instantly provide an arbitrage opportunity in the opposite direction after a sufficiently large swap (specifically, if the slippage was larger than the protocol trading fee). Arbitrageurs then compete for these arbitrage opportunities by participating in priority gas auctions[3], paying a significant portion of potential arbitrageur profits to miners. In this model, liquidity providers are not able to capture any of the subsequent profits—aside from the trading fee, all of the revenue from a temporary mispricing is captured by miners and arbitrageurs.
Mooniswap fixes this issue by creating an asymmetry between the two trading directions. Rather than moving both the buy-sell prices simultaneously and offering an immediate arbitrage opportunity, Mooniswap gradually increases the price of the opposite trade. Consequently, the size of the arbitrage opportunity in the opposite direction also increases gradually. This allows the pool to capture some portion of the slippage via further organic trading, rather than giving it all away to the fastest arbitrageur. To achieve that behavior, we have introduced virtual balances that emulate different prices for different swap directions. With virtual balances, purchase of asset A leads the curves for purchasing asset A and asset B to temporarily diverge. The curves eventually converge again over some predetermined time decay. The idea of using virtual balances in AMMs was initially proposed by Vitalik Buterin, to mitigate front-running issues.
Fees
Mooniswap initially utilizes 0.3% swap fee which can be lowered all the way down to 0% in the future as a way to provide more competitive prices to the market.
Mooniswap introduces referral fee to incentivize integrations with wallets, dapps and other services that increase trading volume and provide additional income for liquidity providers. Referral fee does not introduce additional pressure on the exchange rate and rewards external actors who contribute to the protocol by providing external trading volume. Referral fee is only charged when referral wallet is specified in transaction arguments.
Referral fee is fixed and is equal to 5% of income earned by liquidity providers on the trade. So initial 0.3% swap fee will be split into 0.015% going to referral and 0.285% going to liquidity providers. Additional profits acquired due to using virtual balances are also split in the same ratio with 5% going to referral.
Apart from swap fee and referral fee, Mooniswap does not charge any other protocol fees.
How does 1inch work?
The platform’s central proposition is finding you the best prices for your trades from among many different DEX’s. To achieve this, 1inch uses a method called “routing”: this sees the platform integrate a specialised algorithm called Pathfinder to parse through every possible option for making your chosen exchange, and automatically “route” your transaction via the most cost effective path. One of the most useful features of 1inch is that it will automatically split your trade across multiple trading liquidity pools where this yields the best return, enabling you to find the best possible options within seconds.
Why use 1inch? What are the benefits?
1inch provides a number of stand-out benefits to its users; let’s take a look at some of the main advantages of using this platform to make crypto exchanges.
A faster way to exchange
As you might expect from a comparison platform, one of 1inch’s key benefits is that it saves you time. Whereas previously, finding the best deal for your exchange meant laboriously sifting through multiple exchanges, 1inch does this instantly by leveraging its algorithm across more than 80 decentralized exchanges. This means you accomplish the same objective with less time invested.
Slippage fades away
In case you’re not familiar with the term slippage, let’s start with a brief summary – it’s the movement in price of a commodity between the moment you confirm the transaction and the moment the trade actually takes place. This creates a lack of certainty for traders who, ultimately, can’t be completely sure how much they will pay for their exchange by the time it’s processed.
Slippage is particularly problematic in crypto markets due to the volatility of crypto prices, the time it takes for new transactions to be validated and, sometimes, delays caused by lack of liquidity for larger trades, all of which contribute to pricing uncertainty.
By splitting trades across multiple pools, it is less likely that lack of liquidity will hinder your transaction, bringing better transparency and accuracy to transaction pricing.
Better returns on trades
If you’ve ever made a crypto transaction, you’ll be well aware of our old friend, gas fees – these are the payments required each time you send your crypto to another wallet, rewarding the network validators for maintaining the blockchain.
A nifty feature of the 1inch interface is that it allows you to reduce your transaction costs by locating the trading routes with the lowest gas fees; alternatively, you can also prioritise the routes with the higher overall returns.
With all results easily sorted and displayed on one interface, 1inch makes it easy for you to locate the best deal.
Security and ownership of your keys
Just in case you’d forgotten, let’s say it again: not your keys, not your coins.
One of the key benefits of using 1inch is that you retain full ownership of your coins while you trade. As a non-custodial platform, using 1inch means your funds will always be tied to your own private key, and not that of the exchange. This empowers you with maximum control and security while you’re exchanging.
How to use the 1inch interface
If it’s your first time using the 1inch interface, you might be wondering how to approach it – you are not alone! Let’s take a walk through the various features of the interface, and how you can use them to benefit your own trades.
To begin with, let’s look at the homepage. Let’s say you want to exchange ETH for Aave: you select ETH in the pay box, and AAVE in the receive box.
The algorithm will automatically generate the best deal for this trade, which you can then prioritize – by lowest gas fee or by highest return – using the two buttons at the bottom of the control panel.
1INCH Tokenomics
Note: figures below are accurate as of this writing, and are approximated up to two decimal places.
Total Supply — 1.5 billion 1INCH tokens
Circulating Supply — 438.4 million
Market Capitalization — $1.01 billion
Total Value Locked (TVL) — $32.6 million
24-Hour Trading Volume — $164 million
Key Features of 1inch Network
Below are three of the key features of the 1inch Network.
Routing
Using an innovative method called routing, the 1inch platform is deployed via an algorithm known as Pathfinder. This algorithm parses all the possible options within the liquidity pool and autonomously routes a client’s trades through the most cost-effective path.
Multi Path Swaps
The 1inch Network is capable of performing multi path swaps, occasionally swapping the source token to its destination over multiple paths to get an even cheaper rate. This feature can’t be found on any other DeFi aggregation protocol.
Unique Governance
The 1inch community manages the network with a unique process known as
. 1INCH holders have the right to vote for key protocol parameters, and can earn multiple rewards by doing so. It’s easy for community members to participate and benefit from the process. Unlike with many other governance protocols, voting periods on the 1inch Network aren’t lengthy.
Summary
The 1inch Network’s protocol offers a great crypto experience and adds considerable value for users. Apart from finding the best possible exchange rates for your tokens, the platform also contributes to the DeFi space by accelerating transparency and decentralization. By offering rewards through an innovative governance model, the 1inch Network is a pioneer in reshaping the way decentralized protocols are managed.
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