Balancer represents a decentralized finance (DeFi) protocol operating on the Ethereum blockchain, designed to stimulate a decentralized exchange where users can conveniently buy and sell various cryptocurrencies.
Balancer is a decentralized Ethereum-based exchange and one of the leading automated market makers (AMMs) in the cryptocurrency world. It runs on the Ethereum mainnet and allows users to benefit from several features to create DeFi products.
Think of Balancer as akin to an index fund, where users can create funds based on the cryptocurrencies they hold. These funds are referred to as Balancer pools. Any user who wants to provide liquidity to a pool can do so by depositing their assets into it.
Users who contribute liquidity to a Balancer pool receive a portion of the trading fees paid by network participants when using their pooled funds. Moreover, they are rewarded with a custom cryptocurrency known as BAL.
The deposits made by users into Balancer pools play a critical role in the network, as they ensure sufficient liquidity for the smooth execution of cryptocurrency trades on the platform.
Balancer’s success hinges on incentivizing both sides of its market – the crypto holders who want to make their assets available for trading and the traders seeking the best possible prices for their desired assets.
Similar to other decentralized exchanges (DEXs) like Uniswap (UNI) and Curve (CRV), Balancer offers a comparable decentralized trading experience. However, it stands out by providing additional features, such as the capacity to bundle up to eight different tokens into a single pool.
What are AMM’s
Automated Market Makers (AMMs) are a fundamental technology within the decentralized finance (DeFi) ecosystem. These smart contracts play a crucial role in the automated management of liquidity pools, which serve as the backbone of decentralized exchanges, facilitating the exchange of tokens.
AMMs allow anyone to contribute their own tokens to these liquidity pools and, in return, receive a portion of the trading fees and liquidity pool tokens. These tokens represent ownership shares in the pool and can be reinvested elsewhere within the DeFi ecosystem, contributing to its growth and expansion.
AMM technology has emerged as a driving force behind DeFi innovation and adoption, responsible for up to 90% of trading on decentralized exchange (DEX) platforms as of September 2020. The year 2020 witnessed a remarkable five-fold increase in DeFi users, with over $11 billion of assets locked in DeFi contracts by October 2020.
AMM platforms have evolved through different approaches, each offering distinct value propositions. Uniswap, as the original AMM, gained popularity by using token pairs equally weighted at 50/50. Curve took the AMM model further by employing like-asset optimization, ensuring stability by limiting token pairs to similar assets. Balancer protocol, on the other hand, brought further advancements by introducing nearly limitless options for customizing token balances and fees within AMMs.
While each of these platforms offers unique features, the common thread among them is the flexibility, functionality, and rapid development seen within AMM technology, solidifying its significant impact on the DeFi space.
How Balancer Works
Similar to an index fund that comprises different stocks, Balancer pools are made up of up to eight diverse cryptocurrencies.
The value of a Balancer pool is determined by the percentages of each token it holds, with specific weights chosen during its creation.
The system operates like a self-balancing index fund, utilizing smart contracts to ensure that each pool maintains the correct proportion of assets, even if the individual coin prices within the pool fluctuate.
For instance, if a Balancer pool begins with 25% ETH, 25% DAI, and 50% LEND, and the price of LEND doubles at some point, the pool automatically reduces its LEND holdings to maintain 50% of the pool’s value.
The excess LEND is made available to traders looking to buy LEND at the increased prices, generating opportunities for profit.
Importantly, liquidity providers continue to earn fees while their index funds undergo rebalancing. This differs from traditional index funds where investors typically pay fees for rebalancing services.
Liquidity Pool Types
Balancer offers different types of pools to cater to various risk appetites and user preferences.
Public Pools: These pools allow any user to provide liquidity by adding or withdrawing assets. The parameters of public pools are set before their launch and cannot be changed later. They are ideal for users with smaller holdings seeking to earn fees from popular and highly liquid pools.
Smart Pools: Smart pools possess flexible parameters and act as an intermediary between public and private Balancer pools. This allows pools to be programmed to perform additional functions, such as changing weights, altering swap fees, and controlling who can provide liquidity to the pool. Liquidity Bootstrapping Pools (LBPs) are a type of smart pool that allows projects with relatively low capital to raise liquidity for their native tokens.
Private Pools: In a private Balancer pool, only the pool creator can add or withdraw assets. The user has control over other parameters, including fees, weightings, and the types of assets the pool accepts. Private pools are beneficial for asset managers with large portfolios seeking to earn fees on specific assets.
Liquidity Bootstrapping Pools (LBPs) are a notable example of smart pools, offering a variable weighting system that can be adjusted over time. Projects launch LBPs with their native token weighted higher than the paired token. The sale starts in favor of the project token and gradually lowers in price through weight adjustments, promoting fair price discovery and preventing manipulation by bots and whales. This allows projects to raise liquidity more efficiently than fixed-weighted public liquidity pools.
The Balancer Protocol
Balancer Protocol stands as a pioneering open-source platform, automated portfolio manager, and liquidity provider, operating on the Ethereum blockchain. This innovative protocol addresses inherent challenges found in traditional and centralized exchanges, providing fresh solutions to users. Emphasizing user accessibility, Balancer Protocol facilitates trustless and permissionless trading of ERC-20 tokens.
Users of Balancer Protocol benefit from diverse features, including token trading, liquidity pool creation, and investment in existing pools, all while earning yields from trading activities. The overarching ambition is to establish itself as the leading platform for programmable liquidity.
With an impressive user base of approximately 25,000 liquidity providers, and over three billion dollars locked in liquidity, Balancer Protocol stands as a formidable force in the crypto landscape. Daily earnings from trading fees amount to thousands, offering users numerous avenues to enhance and optimize their cryptocurrency experience.
The user base of Balancer consists of three main demographics: traders, investors, and liquidity providers, along with smart contracts and arbitrageurs. Traders actively engage in cryptocurrency buying and selling on the platform, while investors and smart contracts participate in creating and managing Balancer pools to earn rewards from trading fees. Liquidity providers ensure sufficient liquidity in the pools, and arbitrageurs capitalize on price spreads across various platforms for potential profits within the Balancer ecosystem.
Liquidity Providers
Liquidity Providers play a significant role in the functioning of Balancer Protocol, which operates as a decentralized exchange. Users can seamlessly swap their assets or contribute liquidity without relying on centralized intermediaries.
By depositing their tokens into Balancer Pools, users can earn passive income. Liquidity providers (LPs) receive fees every time swaps occur within the pools they have supplied liquidity to. In addition to these trading fees, liquidity providers have the opportunity to earn BAL tokens, the governance token used for voting on Balancer improvement proposals.
To attract and incentivize more liquidity, Balancer implements a flexible Liquidity Mining Program that targets high-priority pools and can promptly respond to changing market conditions. This approach ensures the continuous flow of liquidity and enhances the overall efficiency of the platform.
Traders
Traders on the Balancer crypto platform experience its dual nature, an exchange for trading and an investment fund for liquidity providers. Liquidity providers are motivated to own a share of a Balancer crypto pool because they anticipate higher profitability from the weighted balance and fees, compared to holding assets outside of Balancer. On the other hand, traders, whether individuals or pre-programmed bots, seek the optimal exchange rates for swapping tokens.
Regardless of their intentions, when traders find lower-priced BTC on Balancer, they are likely to enter the pool and exchange their ETH for BTC. Since Balancer comprises numerous liquidity pools with different tokens and ratios, some pools may have more significant price discrepancies than others. For instance, an 80/20 ETH/BTC pool might offer a different BTC price compared to another pool with 70% ETH, 15% BTC, and 15% DAI.
Balancer scans all the liquidity pools on the platform to find the best BTC per ETH price. Trades initially occur in liquidity pools with the most significant price and token distribution differences relative to others on Balancer. When a trader wishes to buy BTC and sell ETH on Balancer, the protocol automatically selects the pool with the most favorable price for the trade. As AMMs like Balancer adhere to a constant trading formula, the pool offering the lowest-priced BTC will also have the highest BTC amount relative to ETH.
When trades are executed, liquidity pools with the most divergent prices are brought closer to the prices of other pools on Balancer. This alignment of incentives, achieved through automation, benefits both traders, who obtain the best-priced BTC on Balancer, and liquidity providers, who see their pools automatically rebalanced by the Balancer crypto protocol.
Balancer Pools
Balancer Pools are smart contracts that facilitate token swapping within the Balancer Protocol. What sets Balancer Pools apart from other protocols is their unparalleled flexibility. The architecture of Balancer Protocol empowers anyone to create their own customized Pool type, opening up a realm of possibilities for tailored solutions. Let’s explore the various types of Pools that Balancer Protocol can accommodate:
Weighted Pools: These Pools offer high versatility and configurability, making them suitable for a wide range of use cases. Users can construct pools with different token counts and weightings, such as pools with 80/20 or 60/20/20 weightings.
Stable Pools: Ideal for assets expected to consistently trade near parity, Stable Pools are designed to accommodate various stablecoins or synthetic assets.
MetaStable Pools: An extension of Stable Pools, MetaStable Pools contain tokens with known exchange rates. Notably, Balancer recently launched MetaStable Pools in collaboration with the DAO-based staking platform Lido.
Liquidity Bootstrapping Pools: Liquidity Bootstrapping Pools (LBPs) possess the ability to dynamically adjust token weighting. They create sell pressure and introduce fair market advantages, serving as valuable tools for specific use cases.
Managed Pools: Offering increased flexibility, Managed Pools allow users to incorporate up to 50 tokens in a single pool. These pools are designed for fund managers and serve as comprehensive frameworks to track a broader cryptocurrency sector.
By providing such diverse and customizable Pool options, Balancer Protocol enables users to tailor their experiences and optimize their strategies within the decentralized exchange ecosystem.
The BAL Tokens
BAL tokens hold a central position in governing the Balancer Protocol as they serve as its governance token. The Balancer team envisions the BAL token as a key element in transforming Balancer into a fully decentralized platform.
The governance structure of the Balancer Protocol has evolved through a series of BIPs (Balancer Improvement Proposal). The holders of BAL tokens will possess significant influence in making crucial decisions that shape the future of Balancer and its community.
Among the vital decisions that BAL token holders vote on is the selection of other blockchain platforms for Balancer’s future expansion. Additionally, they participate in deciding whether to introduce fees at the protocol level, which could increase revenue and ultimately benefit BAL token holders.
The official documentation regarding BAL tokens emphasizes their role in promoting alignment and active engagement within the protocol. BAL tokens are not intended for speculative investment; instead, they are designed for individuals who actively interact with the protocol, are dedicated to its continued development, and seek a meaningful role in its governance process. This focus on engagement and participation underscores the significance of BAL tokens in ensuring the protocol’s decentralized growth and success.
Conclusion
Balancer Protocol stands as a powerful and innovative decentralized finance (DeFi) platform, offering a wide array of features and opportunities for users. Its unique automated market maker (AMM) technology enables users to create, manage, and participate in liquidity pools, providing a seamless and decentralized trading experience.
With a versatile governance system facilitated by the BAL token, Balancer Protocol fosters a community-driven ecosystem where users can actively shape the platform’s future. The flexible pool options, liquidity mining program, and various user demographics further contribute to Balancer’s prominence in the DeFi landscape. As the DeFi space continues to evolve, Balancer Protocol remains at the forefront, consistently pushing the boundaries of decentralized finance.
