Ok, so this is something I have been thinking about for a while, but recent events have pushed me to dive deeper into the topic.
It may be poor timing or maybe it’s a perfect time… but anyway here it is.
The purpose of this solution is to
- Increase overall liquidity to NFT markets
- Reduce price impact during volatility
- Support creator royalties
- Bridge the gap between chain maxis
Liquidity/Volatility
First off let me educate you on how there is a direct correlation between liquidity and volatility using some examples and analogies.
Liquidity can be represented by “orders in the book”, people placing buy and sell orders in marketplaces, the more orders in the book the more liquidity available, the more liquidity available, and the less volatile the asset can be.
You see if there is only a handful of orders scattered throughout the order book and someone wants to execute on a position, the price has to jump these gaps in order to facilitate the trade. This “gap jumping” is the volatility we experience from our illiquid jpegs known as a spread.
If the books are stacked with lots of orders then when traders come in to execute a trade the orders can absorb the impact and reduce volatility.
So how do we increase liquidity in the NFT markets?
One way is with AMMs, but not for the reasons people think, and it’s a pretty common miss conception that AMMs make money.
The effects of impermanent loss can see liquidity providers either losing money or losing exposure to the price appreciation of the asset they are providing (opportunity cost).
An LP makes money from collecting trading fees on trades facilitated through their pool, the only way they remain profitable is if the price of the underlying asset stays stable/flat and they have a lot of volume go through their pool, as soon as volatility is introduced….they lose.
The real winners in an AMM are the ones exploiting the spreads between other AMMs and marketplaces, it’s an arbitrager's dream. It’s these same arbitragers who are contributing a lot of liquidity (although they give and take) which can be beneficial to the market’s stability and if the markets are stable then the LPs on the AMMs will also be profitable.
Now some people may not know this but the entire Crypto market is one big arbitrage triangle, very similar to how the forex markets work.
Because there are so many trading pairs that are correlated together (ex SOL/USD, SOL/BTC, BTC/USD) this means whatever volatility BTC experiences against USD will create an arbitrage opportunity between SOL/USD and SOL/BTC and the price of SOL will also be impacted as arbitragers exploit the spread and make money with minimal exposure to the underlying asset
If you wish to understand more about the crypto arbitrage triangle you can learn more here >> The Arbitrage triangle
So to summarise
Price stability = AMMs make a profit
Price volatility = Arbitragers make a profit
The solution
So….. what if the wider NFT ecosystem/marketplaces started to offer multiple trading pairs on NFTs, for example, DEGODS/SOL, DEGODS/USD, DEGODS/ETH
At any given time the price of a DEGOD will be the same in $SOL, $USD, and $ETH, however…. if for whatever reason one of the QUOTE currencies were to experience volatility, it would create an arbitrage opportunity to exploit.
For example: If $SOL drops by 20%, you could use your $USD or $ETH to purchase $SOL at a 20% discount, purchase a DEGOD in $SOL, and resell for $ETH for a quick 20% profit. This arbitrage will get repeated until the gap is closed and there is no more opportunity to exploit for free money and the price will stabilize again.
Will the price of DEGODs be affected during the 20% $SOL drop? YES, but not as much as you think. You see when the 20% discount appeared it created an increase in demand on the BUY side in $SOL which started eating up the floor price until it finds an equilibrium against the $ETH price, therefore minimizing volatility and price impact from an increase in liquidity.
The decrease in price impact will also reduce the number of weak hands and panic sellers getting shaken out which will further reduce selling pressure allowing the spread to close quickly to stabilize the price
One could argue that stability will hinder price discovery, and no doubt a lot of people flock to the NFT market because of the astronomical returns you can make on these jpegs.
But I would also argue there is many more people sitting on the side-lines when it comes to NFTs due to the risk involved with volatility and lack of liquidity.
Restoring some level of stability could increase retail confidence and see more sustainable movements in price action rather than the crazy boom bust bubbles we currently have that end up wrecking 99% of the participants
Support creator royalties
Ok, so another benefit to the wider NFT ecosystem is the massive increase of liquidity and volume from traders exploiting arb gaps all day to make small profits means creators will be collecting a solid stream of royalties.
A market-wide proposal to enforce AND reduce creator royalties to a reasonable amount that will see traders/arbitragers happy to absorb and creators able to capture more volume.
Bridge the gap between chain maxis
Exposing maxis cross chain….. instead of Solana vs Ethereum NFTs, it’s just NFTs with different trading pairs. If you’re an Ethereum maxi cool buy and sell your NFTs in $ETH, if you're a Solana maxi cool buy and sell your NFTs in $SOL pairs, if you’re a profit maxi, then buy and sell in all pairs.
There is no reason you can’t be an Ethereum maxi and buy a Jelly Rascal with $ETH, the same way if you’re a Solana maxi it doesn't mean you can’t buy a Moonbirds with $SOL
This could see both chains come together elevating and growing the space as a whole and there will be no need to jump chains if the entire NFT ecosystem has exposure to the same assets using whichever currency they like.
So how do we do it?
I don't know, I'm no developer but I know there are plenty of smart cookies out there who could pull this thing off. I guess the idea of this article is to incite discussion and inspire ideas to see if marketplaces like Magic Eden, Open sea, Hyperspace, etc could work together on an industry-wide solution to see this space evolve into something amazing.
There are people out there working on amazing multi-chain wallets like backpack that allow people to use both $SOL and $ETH and store NFTs in the one wallet.
The 2 biggest market places are already cross chain with both Open Sea and Magic Eden supporting Ethereum and Solana blockchains, It would only take a settlement layer or currency exchange between the 2 chains to make these cross chain transactions swift and user friendly.
l could ramble on a lot longer but I understand this will mainly be NFT mfers reading this and we all know we have an attention span of a goldfish, in fact, I’ll be surprised if any of you made it this far lol.
One last thing…. get y00ted
Regards Denomics
