Dynamic Function Market Maker

TL;DR

The paper introduces a novel adaptive decentralized market maker protocol, DFMM, that enhances market efficiency, risk management, and stability through innovative mechanisms like data aggregation, order routing, and non-linear derivatives.

Contribution

It presents the first fully automated, adaptive, and decentralised market maker protocol integrating data aggregation, risk mitigation, and algorithmic asset management for improved stability.

Findings

Ensures synchronized pricing across external venues.

Optimizes inventory risk via arbitrageurs.

Employs protective buffers to mitigate volatility risks.

Abstract

Decentralised automated market makers (AMMs) have gained significant attention recently. We propose an adaptive and automated Dynamic Function Market Maker (DFMM) that addresses challenges in this space. Our DFMM protocol includes a data aggregator and an order routing mechanism. It synchronises price-sensitive market information, asserting the principle of one price, and ensuring market efficiency. The data aggregator includes a virtual order book, asserting efficient asset pricing by staying synchronised with information from external venues, including competitors. The protocol's rebalancing and order routing method optimises inventory risk through arbitrageurs, who are more likely to assist DFMM, enhancing protocol stability. DFMM incorporates protective buffers with non-linear derivative instruments to manage risk and mitigate losses caused by market volatility. The protocol employs an algorithmic accounting-asset, connecting all pools and resolving the issue of segregated pools and risk transfer. The settlement process is entirely protocol-driven, maximising risk management efficiency, and eliminating subjective market risk assessments. In essence, DFMM offers a fully automated, decentralised, and robust solution for automated market making. It aims to provide long-term viability and stability in an asset class that demands robustness.