Uniswap Founder: Why AMM Could Become the Core Engine of Financial Markets

Author: Hayden Adams, Founder of Uniswap

Compiled by: Jiahua, ChainCatcher

I have been working at the forefront of DeFi for 9 years. It is a fascinating field with nearly limitless potential and depth, capable of transforming capital markets.

I have always believed that AMM has tremendous potential, but for the past decade, one question has constantly troubled me: can this new market structure truly become the core engine of all financial markets?

After years of evolution and growth, a path toward AMM dominating broader financial markets is becoming increasingly clear. To explain this, it is best to start from 1976.

Tokenization Changed Who Can Provide Liquidity

Index funds celebrated their 50th anniversary this month. When Jack Bogle launched the index fund in 1976, he hoped to raise $150 million but ultimately raised only $11.3 million. Competitors called it "Bogle's folly," even creating posters accusing index funds of being "un-American."

They believed that a fund that made no investment decisions could never outperform professionals who were well-paid and solely responsible for investment decisions. Today, most of the assets in U.S. funds have entered passive investment tools.

Recently, I have been thinking about this because the phase of tokenization that was "considered fanciful" is also coming to an end. The SEC has approved Nasdaq and NYSE to trade tokenized stocks. The DTCC, which is responsible for settling almost all U.S. securities, also conducted a real-world test of tokenized trading in July. Almost all these changes have been described in the same way: tokenization is an infrastructure upgrade.

The same market, just faster, cheaper, and operating around the clock. These statements are not wrong, but I believe that the term "infrastructure upgrade" obscures a larger story. Tokenization makes markets programmable, changing which markets can exist, who can provide liquidity, and what assets can be traded directly within those markets.

In 2018, I created Uniswap, an automated market-making protocol. Anyone can deposit two assets into a shared liquidity pool and earn fees from each trade; as users buy and sell, prices automatically adjust along a curve. Uniswap has been operating autonomously since day one, achieving over $4.6 trillion in trading volume and increasing the share of decentralized exchanges in spot trading from less than 1% of centralized exchanges to over 20%.

As AMMs like Uniswap continue to evolve, their liquidity has gradually formed a pattern that most financial market participants have yet to notice: correlated trading pairs.

Which Markets Did AMM Win First?

To win larger markets, one must first win a portion. AMMs initially found product-market fit in long-tail markets because most of these assets could not attract the attention of professional market makers. On Uniswap, anyone can create a market with a single trade, and asset issuers and early supporters can become the initial LPs.

Next came stablecoin trading pairs. For trading pairs like USDC/USDT, a good passive strategy is close enough to optimal, and lower capital costs are sufficient to bridge the efficiency gap. This is also why professional trading firms today generally do not provide liquidity for these stablecoin exchange markets: they are being squeezed out by passive AMMs with lower costs and lower return requirements.

Scale Barriers of Traditional Market Makers

Traditional financial markets are fundamentally the domain of market-making firms. They integrate capital, trading strategies, execution technology, settlement, and distribution into a single vertically integrated business. There are good reasons for this structure: assets exist in independently operated systems, settlement speeds are slow, and each step must be completed by someone, so it is most natural for the same company to be responsible for all functions.

As long as the scale is large enough, all these fixed costs can eventually be diluted. Citadel Securities handles about 25% of U.S. stock trading volume and generated a record $12.2 billion in net trading revenue last year with about $21 billion in trading capital.

Most people see these numbers as proof of the effective operation of this system. What I see is a market landscape that has already been firmly occupied.

Blockchain is Disassembling the Traditional Market-Making System

Blockchain allows for competition at every layer, thereby disassembling the previously bundled system. Execution is done by code, custody and settlement become shared services accessible to anyone, and tasks that once required proprietary infrastructure can now be accomplished with open-source software.

For AMMs, capital is the most scarce input, and the advantage belongs to those who can hold asset inventories at the lowest cost. A trading firm needs to achieve higher returns to cover its costs, so an LP willing to accept lower returns can compete at a lower cost.

Most market makers hedge almost all price risk, and hedging itself incurs costs, so an investor who already holds these assets can bear this price exposure for free. The capital cost for asset issuers may even be negative because issuers often have to pay professional market makers to provide liquidity for new assets.

In simple terms, DeFi and AMMs have lowered the barriers to market-making, allowing more new participants to enter this market. Their advantages may come from many sources, such as lower capital costs, willingness to hold asset exposures that professional firms typically hedge, or even because they themselves are asset issuers.

But it ultimately comes down to one question: is the performance of automated strategies good enough to make these advantages truly valid?

Correlated Trading Pairs

Recently, I had a call with one of the largest financial institutions in the world. They asked me what the most common major paired assets in DeFi are. I explained that Ethereum ecosystem assets tend to trade with ETH, Solana ecosystem assets usually trade with SOL, and stablecoins trade with each other, while these liquidity clusters connect through a small number of highly liquid trading pairs.

No one specifically designed this structure. It formed naturally, one reason being that when the two assets held by LPs move in tandem, they tend to perform better. The correlation between assets means that the holding risk for liquidity providers is lower, resulting in deeper liquidity. As more assets are tokenized, the largest financial markets will also reorganize in the same way.

The reason this cannot happen today is that traditional financial markets, out of practical necessity, require almost all trades to be settled in U.S. dollars. Different assets exist in isolated systems, and fiat infrastructure like SWIFT and Fedwire serves as the glue that binds them together. But blockchain is a more flexible and programmable layer of connection. Once assets are tokenized, they share the same settlement layer, allowing any asset to trade directly with any other asset.

NVDA/USD can become NVDA/SPY, with SPY/USD serving as a bridge back to dollars. Oil company stocks can trade with oil ETFs or tokenized crude oil, and private credit can trade with tokenized U.S. Treasury bond funds. Tokenization can also create markets across different asset classes, which is extremely difficult, if not impossible, in traditional financial infrastructure.

Delta Neutrality is an Inefficiency

Traditional market-making firms typically strive to remain "delta neutral." In traders' terms, this means using dollars as the pricing benchmark and minimizing any non-dollar risk. When making markets for high-volatility assets, they spend money to reduce their non-dollar risk, which is hedging, typically accomplished through options. This is one of the more costly aspects of traditional market-making.

Creating "correlated trading pairs" with lower volatility and connecting them with a small number of higher volatility "bridge trading pairs" can unlock significant efficiency gains. But the most important point is that if the market makers are already willing to hold these underlying assets, then market-making will be cheaper and more efficient.

The higher the correlation among a set of assets, the smaller the efficiency gap between today's passive AMM strategies and the most advanced active strategies, making it easier to compete with lower holding costs.

Specifically, if someone holds NVIDIA for the long term, they are likely also holding SPY for the long term. Therefore, compared to NVIDIA/USD, the efficiency gap between passive AMM and active strategies on the NVIDIA/SPY trading pair is much smaller.

How Correlated Trading Pairs Connect the Entire Market

If stocks primarily trade with SPY, then all trades that start or end in dollars will go through the same trading pair: SPY/USD. These bridge trading pairs still require highly specialized market-making capabilities, but their numbers will be much smaller, and the trading volume they carry will be large enough to justify resource investment from professional institutions.

DeFi has already proven this structure. ETH/USDC is currently one of the deepest markets on-chain because trades between different liquidity clusters route through it. Passive LPs provide liquidity for correlated trading pairs, while active LPs compete on bridge trading pairs.

Investors can still buy and sell all assets using dollars because routing between different liquidity pools is done automatically. Meanwhile, liquidity will concentrate in the lowest-risk areas rather than remain in the positions that traditional infrastructure requires it to exist. This will drive the deepest markets to gradually shift toward correlated trading pairs, where AMMs already have the greatest advantage.

Tokenized Stocks Have Started Trading This Way

The initial correlated liquidity on-chain came from crypto-native assets. But today, the first correlated markets for tokenized stocks have emerged: currently, 10 tokenized stocks trade directly with SPY through Uniswap pools on the Robinhood Chain.

In the first 12 days after launch, these pools achieved $33 million in trading volume, with over 11,000 users participating in trades, a significant portion of which occurred during U.S. stock market hours. Some trades even directly exchanged one stock for another without going through dollars.

It is worth mentioning that we are even starting to see meme coins and so-called "related" stocks form trading pairs: Elon-related meme coins paired with Tesla stocks, hot dog meme coins paired with Costco stocks. It is hard to say how correlated they are in price, but I think "vibe" might also be a form of correlation.

AMM May Ultimately Prevail

Correlated trading pairs are just one part of the puzzle; the other part is the design and customization capabilities of AMMs.

Uniswap v4 Hooks enable complete market customization and significantly enhance LP yields. For example, our recently launched DualPool Hook allows unused funds in passive AMMs to earn lending yields.

Although Uniswap has completed about $4.6 trillion in trading volume, I believe AMMs are still in a very early stage, and there are many ways to further enhance their competitiveness. Whether internally within Labs or with our partners and the broader ecosystem, we are exploring more ways to enhance LP yields. More progress will come in the future.

In 1976, the argument against index funds was that a fund that made no decisions could not outperform professionals who were well-paid and solely responsible for investment decisions.

Fifty years later, a "decision-free" fund has outperformed about 90% of professional investors. More importantly, index funds have made investing more accessible and improved the lives of ordinary people.

I believe that passive liquidity will also prevail along a similar path, and the impact will be even greater because it can significantly lower the barriers to creating and participating in markets.