Uniswap

Uniswap is a decentralized exchange (DEX) protocol that allows users to swap ERC-20 tokens, which are tokens built on the Ethereum blockchain.

Uniswap’s ability to provide liquidity in a secure and decentralized manner makes it a key player in the DeFi space.

What is Uniswap?

Uniswap is a decentralized exchange (DEX) built on the Ethereum blockchain that makes exchanging Ethereum (ERC-20) tokens simple.

Unlike traditional exchanges, which rely on a central authority to facilitate trades, Uniswap uses an Automated Market Maker (AMM) system.

This means that instead of matching buyers and sellers in an order book, Uniswap uses liquidity pools to enable token swaps.

These pools are filled with different types of cryptocurrencies. An algorithm automatically determines the price of each token based on the ratio of assets in the pool.

Anyone with an Ethereum wallet can access Uniswap to swap tokens, provide liquidity to pools, or even create new pools for different tokens. This open and permissionless nature is a key feature of Uniswap and DeFi in general.

Uniswap is also notable for being open-source software licensed under the GPL, meaning its code is publicly available and can be used and modified by anyone. This transparency fosters community involvement and contributes to the platform’s security and trustworthiness.

One challenge for users of Ethereum-based apps, including Uniswap, is the high cost of gas fees (transaction fees) on the Ethereum network.

To address this, Uniswap v3 supports the use of Ethereum Layer 2 networks, which offer faster and cheaper transactions.

Users can choose to buy a different token that can be sent directly to one of the Layer 2s from a centralized exchange and then exchange this token on Uniswap for the original token they intended to use.

Uniswap has also played a significant role in the development of DeFi applications (dApps), such as decentralized lending, where users can borrow and lend digital assets without the need for a central entity.

These applications often rely on Uniswap’s liquidity pools to ensure that assets can be efficiently traded.

How does Uniswap work?

Imagine a pool with two tokens, ETH and DAI.

When you want to swap ETH for DAI, you interact with this pool. The algorithm calculates the exchange rate based on the current ratio of ETH and DAI in the pool.

When you add ETH to the pool, the amount of DAI you receive is determined by a mathematical formula to maintain balance.

This process is automated and happens without the need for an intermediary.

Uniswap runs on two smart contracts: the “Swap” contract and the “Factory” contract. These are automated programs designed to perform specific functions when certain conditions are met.

The Factory smart contract is used to add new tokens to the platform, while the Swap contract facilitates all token exchanges.

To ensure there’s enough liquidity for trades, Uniswap relies on users to provide tokens to these pools. These users, called liquidity providers (LPs), earn a portion of the trading fees generated by the pool.

Each liquidity pool is a smart contract that holds reserves of two tokens and allows anyone to deposit and withdraw tokens from them, but only according to very specific rules.

One of the rules is following the Constant Product Market Maker (CPMM) formula x * y = k, where x and y are the reserves of two tokens, A and B.

To withdraw some amount of token A, one must deposit a proportional amount of token B to maintain the constant k before fees.

If a swap decreases Token A’s supply, for example, then the price will automatically adjust so that the next buyers will need to deposit more Token Bs to get the same amount of Token As.

Not only will traders not need to wait for someone to match their orders, but arbitrage opportunities also ensure that the CPMM price is close to the market price.

To swap coins, you’ll need to connect an ETH wallet containing your ERC-20 tokens and enough ETH for gas fees and connect it to Uniswap’s platform.

Trading on a DEX means that you (not centralized exchanges) have the private keys to your tokens.

You can also park your tokens in Uniswap’s liquidity pools. There’s a 0.05% to 1.0% fee for every swap made and liquidity providers (LPs) earn a fraction proportional to the liquidity they have contributed to the pool.

You’ll need to deposit an equivalent value of two tokens, which can either be an ETH and an ERC-20 token or two ERC-20 tokens. In return, you’ll get “liquidity tokens” representing your share of the pool’s transaction fees.

A recent update has even allowed liquidity providers to concentrate their capital within a custom price range.

The previous setup meant that your $1,000 would be used to cover liquidity for trades across ALL prices and that you’ll split profits with ALL LPs in the pool.

With Uniswap V3, you can concentrate your $1,000 within a popular price range and only split profits with LPs using the same range. Similarly, focusing your capital on less liquid price ranges would mean a bigger slice of the profit pie.

If your token isn’t on the exchange yet, then you can set up a Factory contract that would connect your token to the Ethereum blockchain and then make an Exchange contract to track its liquidity pools.

Unlike other exchanges that charge fees, users can list tokens in Uniswap for free.

Uniswap isn’t without its weaknesses. It’s vulnerable to Ethereum’s lags and high gas fees though developers are working on a scaling solution. Uniswap’s CPMM can also see slippages wherein large trades can cause price spikes.

Team background

Uniswap was founded by Hayden Adams in November 2018. Prior to establishing Uniswap, Adams worked as a mechanical engineer at Siemens.

Inspired by Ethereum co-founder Vitalik Buterin’s concepts, Adams taught himself blockchain development and created Uniswap to facilitate decentralized token swaps without relying on traditional order books.

Key Team Members:

  • Hayden Adams (Founder & CEO): As the driving force behind Uniswap, Adams transitioned from mechanical engineering to blockchain development, leading to the creation of the Automated Market Maker (AMM) model that underpins Uniswap’s functionality.
  • Mary-Catherine Lader (Chief Operating Officer): Joining Uniswap Labs in 2021, Lader previously served as Managing Director and Global Head of Aladdin Sustainability at BlackRock.
  • Padmini Pyapali (Director of Engineering): Before joining Uniswap, Pyapali was an Engineering Manager at Sonder. She brings experience in software development and engineering management to oversee Uniswap’s technical infrastructure.
  • Will Ruben (Vice President of Product): Ruben’s background includes serving as Senior Director of Product Management at Coinbase. At Uniswap, he focuses on enhancing user experience and expanding product offerings.
  • Marvin Ammori (Chief Legal Officer): Prior to joining Uniswap, Ammori was General Counsel at Protocol Labs. He provides legal guidance to navigate the regulatory landscape of the cryptocurrency industry.

What is the UNI token?

UNI is the governance token of the Uniswap protocol.

Though Uniswap started in 2018, it didn’t launch its native token UNI until September 2020 when it distributed 150 million of its 1  billion UNI tokens to past Uniswap users.

UNI holders can participate in Uniswap’s governance by voting on proposals that affect the protocol. These proposals can range from adding new features to changing fee structures. This allows the community to actively shape the direction of Uniswap.

Over 60% of the total UNI supply was distributed to community members, making it a fairly decentralized token, with only 21.5% given to team members and roughly 17.8% given to investors.

As with many governance tokens, there is speculation on the potential future revenue share from the protocol with the UNI holders.

UNI is available on major crypto exchanges and can be stored in any ERC-20 compatible wallet.

Token Metrics:

  • Circulating Supply: Approximately 600 million UNI tokens.
  • Total Supply: 1 billion UNI tokens.
  • Inflation Rate: After reaching the initial maximum supply of 1 billion UNI tokens, an annual inflation rate of 2% is implemented to ensure continued network participation and incentives.

Risks and Potential Rewards of Investing in UNI

Like any investment, holding UNI tokens comes with risks and potential rewards:

Risks:

  • Impermanent Loss: Liquidity providers can experience impermanent loss, where the value of their assets in a pool decreases compared to simply holding the tokens. A report by Topaze Blue and Bancor Protocol found that 49.5% of liquidity providers on Uniswap V3 have incurred losses from impermanent loss.
  • High Gas Fees: Transactions on the Ethereum network can incur high gas fees, especially during periods of network congestion.
  • Smart Contract Risks: While Uniswap has a strong security track record and implemented the “checks-effects-interactions” pattern to mitigate reentrancy attacks, smart contracts are always susceptible to vulnerabilities.
  • Market Volatility: The price of UNI can be volatile, and investors could experience significant losses.
  • Scams Risk: Due to the permissionless nature of Uniswap, there is a risk of scams from fraudulent token listings.
  • Limited Token Support: Uniswap only trades Ethereum ERC-20 tokens, and future cross-chain DEXs may attract traders looking to trade across blockchains.
  • Legal and Regulatory Uncertainty: DEXs and cryptocurrencies operate in a complex legal and regulatory landscape, and users should be aware of the potential risks in their respective jurisdictions.
  • Token Warnings: While Uniswap has a token warnings feature that flags potentially malicious tokens, users should always do their own research before proceeding with any transaction.
  • Inflation: A perpetual inflation rate of 2% per year for UNI tokens will start after 4 years, potentially affecting the value of holdings for passive investors.

Potential Rewards:

  • Governance Rights: UNI holders have the power to influence the future of the protocol through governance.
  • Staking Rewards: The proposed staking and delegation system could provide rewards for UNI holders who actively participate in governance. This proposal aims to rework the Uniswap protocol’s fee mechanism for distributing a share of fees to its community.
  • Potential for Price Appreciation: As Uniswap continues to grow and evolve, the value of UNI could increase.
  • Liquidity Provider Fees: Liquidity providers can earn fees by providing tokens to Uniswap pools. These fees vary depending on the volatility of the asset pools, with options of 0.05%, 0.3%, and 1%.
  • Crypto.com Campaign: Users of the Crypto.com App can potentially earn rewards by building their UNI balance.

Uniswap v4: The Next Generation

Uniswap is constantly evolving, and the upcoming Uniswap v4 release promises significant improvements. While initially planned for 2024, the launch has been pushed to 2025.

One of the key features of v4 is the introduction of “hooks,” which allow for more customization and flexibility in trades. This opens up possibilities for features like limit orders and automated liquidity management.

V4 also aims to improve efficiency by reducing gas costs, making transactions cheaper for users. This is a crucial step in making DeFi more accessible to a wider audience.

Despite the delay, Uniswap has kept its community engaged with updates and progress reports. In June 2023, Uniswap’s founder, Hayden Adams, introduced a draft version of the v4 code and prioritized open development and community contributions.

As part of its preparations, the team launched a massive bug bounty in November 2024 to identify and address potential vulnerabilities.

Recent Developments

In addition to the anticipation for v4, Uniswap has seen several notable developments in the past year:

  • Permissionless Bridging: Users can now bridge assets across nine different networks directly from the Uniswap interface and wallet. This makes it easier to move assets between different blockchains and expands the possibilities for trading and liquidity provision.
  • MoonPay Integration: Users can now purchase crypto using their Venmo balance through MoonPay’s integration with Uniswap. This simplifies the process of acquiring crypto and makes Uniswap more accessible to those familiar with traditional payment platforms.
  • Worldcoin Integration: Uniswap now supports Worldcoin, a new cryptocurrency that aims to create a global digital identity system. This integration highlights Uniswap’s commitment to supporting innovative projects in the crypto space.
  • Staking and Delegation: The Uniswap Foundation has proposed a system to reward UNI holders who stake and delegate their tokens. This aims to encourage active participation in governance and further decentralize the protocol.
  • Uniswap DAO Treasury Expansion: The Uniswap DAO is preparing to expand its $5 billion treasury beyond UNI.
  • Governance Spat: A governance spat sparked worries about the protocol’s decentralization.
  • Fee Switch Vote Delay: A delay on the fee switch vote caused the UNI token to drop 7%.
  • CFTC Settlement: Uniswap reached a $175,000 settlement with the CFTC.
  • Ethereum ETF Approval: Uniswap received a $5.5 billion bump from the Ethereum ETF approval.
  • Research and Development: Uniswap Labs has conducted research on how traditional financial factors impact crypto price movements, measuring price improvement with order flow auctions, and demonstrating that Uniswap v3 scales with L2s.
  • User Adoption: Research shows that 80% of wallets make their way to Uniswap on day one.