Enosys DEX V3’s Native Incentives
We’ve previously discussed the differences between DEX V2 and V3 in terms of how the liquidity curves function and liquidity positions. In this article, we will discuss how DEX V3 optimizes liquidity to earn fees and incentives.
Fees
On DEX V2, fees are paid passively to the liquidity pool, shared proportionally across LP token holders. This is because, as we discussed before, every LP token is fungible and backed by the same balance of assets. One holder of 10 LP tokens will receive the same share of fees as another holder of 10 LP tokens.
However, those fees are automatically accumulated to the LP, and are not claimed manually by the position holder.
It works like this:
Let’s say there is an LP with $10,000 of Token A and $10,000 of Token B, and a fee of 0.3%.
A user comes to the LP and wants to swap $100 of Token A for Token B.
Rather than requiring the user to pay $100.30 of Token A, the LP instead takes the $100 and returns only $99.70 of Token B. (for this example we will ignore slippage for simplicity).
The LP now contains $10,100 of Token A and $9,900.30, a net gain of $0.30 whether counted in Token A or Token B.
Say a second user comes and swaps $100 Token B for Token A. The new LP balance is $10,000.30 Token A and $10,000.30 Token B. (Again, ignore slippage)
If this LP were held fully by one user, that user just made $0.60 by providing liquidity for $200 worth of swaps. However, say 10 users had equal $1000 shares of the LP. They each made $0.06.
In DEX V3, the fees are collected and distributed in a different way.
Because each liquidity position is non-fungible, the fees cannot just be added directly to the LP. This means that the fees are accumulated for each swap that occurs and then made claimable in proportion to each liquidity provider’s contribution to active liquidity during the swap.
Any liquidity position that crosses the active trading range during a swap will earn fees. However, a more concentrated position will receive proportionally more fees per swap than a less concentrated position because a higher share of their liquidity was utilized.
This ability for liquidity providers to optimize for fees generally results in much higher fee returns relative to liquidity provided, making the risk/reward calculation of concentrating liquidity in certain pools essential to efficiently deploying capital.
Position holders can claim the fees owed to their liquidity at any time on the Liquidity position UI, and will receive fees in the tokens making up both sides of the pair.
Incentives
The differences between V2 and V3 regarding fees are very similar to those in incentives.
In DEX V2, liquidity incentives are separate from the liquidity pool itself. Because each position is represented by fungible LP tokens, we are able to create an incentive Farm pool in which LP tokens are deposited to receive a proportional share of incentive emissions based on the number of LP tokens.
DEX V3 requires a very different approach, due to the non-fungible nature of positions.
We wanted to create a way to incentivize active liquidity, such that the risk of concentrating a position is reduced and offset. DEX V3 uses a novel solution which closely resembles the way fees are handled. It uses an epoch system, initially set to 6 hours, in which the liquidity that is used to facilitate swaps is tracked and earns rewards proportionally to the amount of position liquidity that was active vs the full active liquidity in the LP.
This means that a more concentrated position that remains in the active range for more of the epoch will earn more rewards than a less concentrated position or one that spends less time in the active range.
The emissions of incentives are constant per epoch, but one of the features of this system is that we can run multiple incentives on the same liquidity pool. This means that Ēnosys can supply Apsis incentives to an LP like F-XRP/USDX, and then the Flare Foundation can provide FLR incentives, Hex Trust can provide USDX incentives, and Kinetic can provide Joule incentives, all on the same pair! And that’s on top of the native Delegation rewards and FlareDrops that liquidity providers continue to receive in any SGB or FLR LPs.
Because of the system's modular nature, we can be very flexible and targeted in how incentives are deployed. If a new launch or event is upcoming or a new market opens for an asset, we can add new incentives to the relevant asset pools to ensure that there is sufficient liquidity available to smooth the scaling process.
Hopefully, this article has shown the importance of liquidity management on DEX V3 and how the fee and incentive systems are designed to provide greater rewards to those that provide actively traded liquidity.
