dYdX: Liquidity Providers' Incentive Programme Review

TL;DR

This paper reviews and proposes updates to dYdX's liquidity provider incentive program to promote more active and efficient liquidity, based on market maturity and detailed orderbook analysis.

Contribution

It introduces a new formula and methodology for incentivizing liquidity providers, considering market conditions and orderbook metrics, to enhance trading efficiency.

Findings

Updated maxSpread parameter recommendations

Orderbook depth analysis methodology

Proposed alternative incentive mechanisms

Abstract

Liquidity providers are currently incentivised to provide liquidity through the LP Incentives Programme on dYdX. Based on the various parameters - makerVolume, depths and spreads, they are rewarded accordingly based on their activities. Given the maturity of the BTC and ETH markets, alongside other altcoins which enjoy a consistent amount of liquidity, this paper aims to update the formula to encourage more active and efficient liquidity, improving the overall trading experience. In this research, I begin by providing a basic understanding of spread management, before introducing the methodology with the various metrics and conditions. This includes gathering orderbooks on a minute interval and reconstructing the depths based on historical trades to establish an upper bound. I end off by providing recommendations to update the maxSpread parameter and alternative mechanisms/solutions to improve the existing market structures.