update 19 August 2021

Uniswap Exchange – The Ultimate Guide for Beginners

As of late, there has been a lot of discussion surrounding Uniswap. Uniswap is an open-source, decentralized exchange (DEX) for traders and liquidity providers. This platform continues to raise eyebrows across the market due to its rapid expansion and growing positioning. This DEX provides a variety of valuable services that make it unique to the market. Consequently, Uniswap is now the top DEX exchange in terms of locked funds, according to a recent study published by DeFi Pulse.

Uniswap saw a quick rise to fame in the crypto sector due to a variety of reasons. For one, the platform’s interface allows anyone to swap ERC-20 tokens in a trustless manner. Notably, ERC-20 tokens are the most common type of token built on top of the Ethereum blockchain. There are over 180,000 ERC-20 tokens in circulation at this time, and these numbers continue to increase daily. 

uniswap swapping app
Source: UniSwap

Uniswap caters directly to this growing community of token users and allows them to conduct various critical functionalities using the protocol. Primarily, the protocol creates a token exchange standard for ERC-20 tokens using a set of smart contracts. Through an easy to navigate interface, anyone can interact with Uniswap’s smart contracts.

What Problems Does Uniswap Attempt to Fix?

Uniswap operates in a manner that is unique among exchanges. For one, the DEX democratizes the sector. Anyone can swap tokens, add tokens to a pool to earn fees, or list a token on Uniswap. You don’t need to register to use Uniswap. Its decentralized nature eliminates the hustle and delays of KYC/AML compliance. In essence, the only thing you need to use Uniswap is an Ethereum wallet such as MetaMask or Eidoo.

Uniswap resides on the Ethereum blockchain. This integration provides the platform access to all ERC-20 tokens. The exchange also lists a variety of other popular tokens. Keenly, the platform is one of the best places to find the hottest DeFi tokens at the moment. Currently, the platform lists WBTC, CDAI, Aave’s tokens, and many more.

Hugely Popular

Uniswap gained popularity because it simplifies the entire token listing process. Additionally, it provides valuable liquidity to new projects in the market. Currently, the firm has over $1.47 billion in liquidity locked in smart contracts. Additionally, there are no listing fees to add a token on Uniswap. It’s the most cost-efficient approach to the market for startups seeking access to funds.

Benefits of Uniswap

Uniswap introduces a host of benefits to users. For example, anyone can build an interface in seconds using the platform. This interface then connects directly to Ethereum smart contracts. In minutes you can start exchanging with the entire Uniswap community. Best of all, users don’t need to wait for a counterparty to exchange. They also can avoid the need to specify a price. This strategy allows startups to avoid any liquidity concerns.

How Does Uniswap Work?

Unlike traditional exchanges, Uniswap employs a unique business model and technologies to create this ERC-20 ecosystem. At the core of the platform are liquidity pools. Uniswap pools tokens into smart contracts, and users trade against these liquidity pools. The platform also maintains an order book and facilitates matches between buyers and sellers.

Automated Market Maker (AMM)

Uniswap prices are set automatically using the constant product market maker mechanism. This deterministic algorithm helps to keep the entire ecosystem balanced. To determine the proper trading prices for a token, this formula is used:

x * y = k

In this formula, k represents the liquidity pool, and y and x are ETH and the ERC20 token of the pool. The AMM’s sole purpose is to ensure that there is liquidity at all times. As such, the price of the token increases asymptotically as the desired amount increases. In the Uniswap ecosystem, the price of a token is directly related to the order quantity.

The AMM also helps to keep overall reserves in a state of relative equilibrium. Throughout the day, smart contracts pool reserves between liquidity providers. These providers agreed to supply the system with tokens in exchange for a share of transaction fees in proportion to their contributions.

Two Types of Contracts in Use on Uniswap

There are two types of contracts that the Uniswap platform relies on – Exchange and Factory. Both of these contracts serve very different but critical activities within the network. 

Exchange Contract

The main purpose of the Exchange Contract is to hold a pool of a specific token and Ether. This pool is what users swap against when they utilize the platform. 

Factory Contract

The second type of contract in use on Uniswap is Factory contracts. These contracts are how users create new Exchange Contracts. Additionally, this is the coding that registers the ERC20 token address to its Exchange contract address. In this network, these contracts also act as a public order book. 

Main Functionalities

Uniswap has three main functionalities that users employ when navigating the protocol. These tasks will require some GAS to accomplish. GAS is the backend token of the Ethereum network. It’s what is used by developers to initiate smart contracts. You will need to hold some GAS to do anything on Uniswap. Not surprisingly, this is where most users’ complaints revolve around.

Swapping Tokens

Uniswap is a powerful tool for investors seeking to swap ERC-20 tokens. Intuitively, the platform utilizes Exchange contracts to pool both Ether and a specific ERC-20 token. Whenever you trade Ether for a token, your Ether is sent to the contract’s pool. Then, the token is sent back to you. Again, the amount you receive depends on the automated market maker formula. 

How to Swap Tokens

The first step to swap a token on Uniswap is to connect to the platform with an Ethereum wallet such as MetaMask. From here, you will need to choose which tokens you would like to trade. Importantly, all new users will have to take an extra step and unlock each token for trading. The GAS fee for these actions is under $0.10. Next, you will see a prompt appear. You need to click swap to proceed with your exchange.

Swapping ERC-20 for ERC-20 Tokens

UniSwap is one of the only exchanges that allow users to directly swap an ERC-20 to another ERC-20 in a single transaction. The platform integrates a proprietary tokenToTokenSwap function to accomplish this task. Automatically, this feature adds liquidity to the liquidity pool. This pool then sends the ETH to the token smart contract address of the token you want to receive. From here, the token you wanted is sent directly to your address.

Adding Liquidity

Liquidity tokens play a vital role in the Uniswap protocol. These tokens allow users to track the relative proportion of total reserves that each liquidity provider has contributed. Notably, liquidity tokens are divisible. They may be burned at any time when the protocol needs to return a proportional share of the market’s liquidity to the provider.

How to Add Liquidity

Adding liquidity to Uniswap is easy. An Exchange Contract is first created for a token. At this point, both the token and Ether pools are empty.  When the first person deposits into the contract, they also determine the ratio between the token and Ether. 

Keenly, adding liquidity requires depositing an equivalent value of ETH and ERC-20 tokens into the ERC-20 token’s associated exchange contract. The main reason to add liquidity is to earn a cut of the exchange fees. In the Uniswap network, liquidity providers earn exchange fees of around 0.3%.

Liquidity Tokens

uniswap liquidity tokens growth over time charts
Source: Medium @pintail

Once you add liquidity to the project, you will receive tokens in exchange for your contributions. Special ERC-20 tokens known as liquidity tokens are minted to the provider’s address in proportion to how much liquidity they contributed to the pool. Now you will need to go to the Pools tab. Here you will find the option to Unlock your new tokens. 

Lastly, you will need to select the token for your deposit token. It’s worth noting that clicking to the right will apply the maximum balance. Just Click Add Liquidity and confirm your Metamask Transaction via the prompt and you are all set.

Removing Liquidity

There are also instances when you may want to remove liquidity from a project. In this case, you need to go back to the Pool tab. You should see the option to Remove Liquidity in the drop-down menu. Now you must select your liquidity token. The balance of the token selected will populate to the right on your interface. 

The next step is to click max. You will see a screen that explains how much ETH plus the token you will receive if you complete the action. This approval starts a smart contract that sends liquidity tokens to burn to keep the ecosystem balanced.

Balance

The key to Uniswap is maintaining this liquidity balance. Impressively, the pools maintain a ratio relative to the rest of the market’s price through people arbitraging the pool. Arbitrage is one of the oldest forms of trade. It simply means to buy something for a lower price and resell it for a higher price in a different location. 

People can buy tokens when the market is unbalanced and sell them back on centralized exchanges. Savvy investors repeat this action until the pool balances out the value of assets on the centralized exchange. Consequently, third party arbitrages play a large role in maintaining the correct ratio of token to Ether in Uniswap pools.

History of Uniswap

The founder of Uniswap, Hayden Adams, continues to work closely with the Ethereum Foundation to expand this project’s capabilities. In 2018, Uniswap received funding from the foundation to continue its task to provide liquidity in the ERC-20 sector. In 2019, the firm again secured funding. This time the funding came from Paradigm.

In March 2020, Uniswap reached the highest trading volume in the history of DEXs at $53 million. This excitement parlayed into a successful launch of the platform’s governance token known as the UNI token.

UNI Token

The UNI token serves as the governance and utility token for Uniswap. This token has experienced impressive growth since its launch in September 2020. One report conducted by CoinGecko shows the UNI token almost tripled in under 24-hours. 

uniswap uni token charts and price analysis
Source: Medium @pintail

This hype is well-deserved as UNI managed to secure a Coinbase Pro listing just hours after its launch. In total, there will be 1 billion UNI tokens distributed between the community, developers, and team members.

A Robust Dapp Community

One of the most interesting developments taking place right now in the Uniswap arena has to be third-party add-ons. Uniswap has basic functionality. Users can buy and sell at market price. Recently, platforms have begun to enter the market to expand on Uniswap’s functionality. One such project attempting to accomplish this goal is Project Fire Salamander.

The Project Fire Salamander interface allows users to both Limit Buy/Sell on Uniswap. The goal of the project was to help bridge the UX gap between centralized exchanges and DEXs. Interestingly, addons like Fire Salamander help push the value of Uniswap to new heights by improving the platform’s capabilities. 

What Does the Future Hold for Uniswap

When you look at the market’s current state, it’s easy to see that Uniswap is positioned for success. The DEX movement has more momentum than ever before, and the ERC-20 token standard continues to dominate the market. Uniswap caters to these niche sectors in a way that makes it the ideal option for these investors. You can expect to see this platform continue to expand alongside the blossoming ERC-20 community in the coming months.

The Market Needs Uniswap

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It would be hard to argue that the market would be better without Uniswap. This platform is the easiest way for new projects to get liquidity. The simplistic and open-nature of Uniswap makes it an instant DeFi classic. Also, since it’s free to list tokens, Uniswap is quickly becoming the DeFi token exchange of choice. Every day, this revolutionary protocol proves its worth to the market. For these reasons, Uniswap is set to remain the top DEX for the foreseeable future.

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