Uniswap is a trading protocol running on the Ethereum blockchain, which allows decentralized token swaps. Since Uniswap pools tokens into smart contracts, users can execute an exchange against these liquidity pools trustlessly without the need for central authorization, as opposed to using a traditional order book model. Thus, anyone can trade Ethereum tokens on Uniswap, lend their crypto to liquidity pools to earn a fee, or list a token to Uniswap. Thus, it is an on-chain digital market maker used to swap ERC20 tokens with ETH, and vice-versa.
In this article, we will learn about the advantages of Uniswap, its working methodologies and shed light on its prospects.
More than 6000 cryptocurrencies are traded globally. The majority of these tokens are built on Ethereum. Uniswap is a protocol developed to improve the services of tokenized assets running on the Ethereum Network.
Due to the high volume of tokens, it becomes difficult to swap between two ERC-20 tokens, especially when both aren’t listed on the same decentralized exchange. Sometimes, even after being listed on the same decentralized exchange platform, they lack a direct trading pair, thus making the transaction tedious.
Uniswap is a novel technology within the decentralized finance space, facilitating automated liquidity provision on Ethereum. Uniswap is a DeFi protocol with large volumes of ERC20 tokens.
Since Uniswap is one of the newest DEX platforms, only time will define its growth. However, below are some of the basic advantages of this decentralized exchange:
Uniswap V1 was a proof-of-concept with relatively fewer features but served as a pioneer in the decentralized applications field. Following the success of Uniswap V1 and surge in Ethereum price allowed the team to raise a seed round to fund improvements of their product by releasing Uniswap V2. Uniswap V2 presents several enhancements to the protocol, built upon the liquidity and swapping mechanisms to facilitate ETH and ERC20 token swaps. Some of the key changes include:
In May 2021, the project released a big update Uniswap V3 with concentrated liquidity as a flagship feature. With this hew option, liquidity providers get higher control over price ranges and get fairer compensation for the risks they bear. In the blog post announcing the update, the Uniswap team promises up to 4000x capital efficiency compared to V2.
Another big improvement of the new version is non-fungible liquidity. Each position is now represented in the form of a unique token which adds one more great use-case for this technology.
Uniswap comprises smart contracts that store Ethereum based assets and liquidity to provide services. The assets are deposited by liquidity providers. To become a liquidity provider, you simply need to go on the Uniswap website and add liquidity to the pool. This allows you to contribute to the longevity of the protocol and receive a reward as a percentage of trading fees that use the pool.
Now, let’s dive into the three core steps of Uniswap – Swapping Tokens, Validating Tokens, and Liquidity Pools.
Users can access the Uniswap protocol using uniswap.exchange URL. On the website, users can swap tokens or add tokens to the liquidity pool by simply selecting the appropriate token using a wallet that can hold ETH and other ERC20 tokens. Once a trade is selected, the user can simply approve the transaction to confirm the swap. One must be careful about the transaction fees which is based on the Ethereum price prevalent at the time of swap.
Besides the official Uniswap website, several front-end user interfaces have been created, as Uniswap is an open protocol of smart contracts. Thus, users can also add funds to Uniswap pools without accessing the official interface. Many unique use cases are expected in the coming years, which would use Uniswap’s token swapping system and new decentralized finance (DeFi) products.
Since Uniswap serves as a trustless DEX platform on the Ethereum blockchain, it cannot be altered unless the Ethereum protocol is successfully attacked. Given the history of blockchain platforms like Ethereum and Bitcoin, this has not happened to date and is unlikely to happen considering the number of miners and validators currently in operation.
Liquidity pools serve as a decentralized liquidity system. Anyone can participate in it and earn rewards. Liquidity can be added and removed freely from an ERC20 Exchange contract. Adding liquidity to the ERC20 Uniswap contract requires ETH – such that Ethereum price is equal to the ERC20 token.
Uniswap charges a 0.3% fee for every swap, which is dispersed among liquidity providers based on each provider’s share of the pool. When a user deposits tokens into a liquidity pool, mining takes place on Uniswap to generate a native token whose value is based on the pool share and helps keep a digital record of the user's share in the pool.
All liquidity tokens adhere to ERC20 protocols and can be traded. The trade serves as a transfer of ownership without removing the liquidity from a pool. Removal of tokens from the pool results in the burning of the liquidity tokens associated with that share.
Following are some of the key risks associated with Uniswap:
Uniswap is the largest exchange on DeFi. The trade volumes on Uniswap are larger than most centralized exchanges. Thus, Uniswap has revolutionized DeFi and brought billions of dollars in trading volume by giving rise to AMM (automated market maker) protocol. Thus, the growth of Uniswap is inevitable.
Uniswap is generally considered a safe DEX for trading cryptocurrency assets. Token swaps are highly secure since they do not require funds to be held on the exchange.
As seen above, Uniswap has several advantages over traditional crypto exchanges. One of them is the elimination of KYC (Know Your Customer verification). On Uniswap, trading is done directly from the user's wallet. Thus, the user’s public wallet address is the only required identifier.
Yes, you can. Uniswap pulls data from the trustwallet asset repository on GitHub: https://github.com/trustwallet/assets. Users can add an icon to the repo which will appear on the frontend.
Impermanent loss is defined as a temporary loss due to volatility in a trading pair of liquidity provider.