Alastor Fee Switch Report

1

Alastor received a grant from the Uniswap Foundation to provide strategic analysis and recommendations regarding any potential future fee switch implementation that Uniswap Governance might consider. We have pulled together some analysis (found here) and are excited to share with you what we’ve found. A few TL;DR takeaways below…

Before determining the “right” approach, it’s first important to define the key objectives. It is our belief that $UNI holders should think about the goals of the protocol in this order:

  1. Growth - Driving Protocol Volume
  2. Liquidity - Maintaining / Deepening Protocol TVL
  3. Ecosystem Sustainability - Generating Fees

Given the early-stage of the protocol (and DEX trading generally) fee generation should only be implemented if it doesn’t materially disrupt volume and liquidity. In our opinion, ceding market share in exchange for fee generation at this stage is not a wise tradeoff. With that being said, we do not believe these objectives to be mutually exclusive and that the ability to prove fee generation potential at this stage is important.

In the near term, we recommend that $UNI holders use the fee switch as a tool to incentivize LPs to allocate capital efficiently on the protocol. To that end, we believe that implementing a fee switch on the 0.30% and 1.00% pools for at-scale volatile pairs and the 0.05% pools for at-scale stablecoin pairs would be a prudent place to begin. More detailed recommendations on specific pools are included in our attached analysis.

To that end, we would suggest the community deliberately implement a fee switch in four phases:

  1. Higher Fee Tier Pilot Program
  2. Higher Fee Tier Broad Rollout
  3. Lower Fee Tier Pilot Program / Increased Fee Split for Higher Fee Tiers
  4. Lower Fee Tier Broad Rollout

Our report contains a high-level look at Uniswap’s place in the market, supporting analysis for our conclusions and process recommendations, and specific v3 pool guidance for initial experimentation. We also interviewed a number of Uniswap v3 LPs and recorded some key takeaways from those conversations as well as feedback from a targeted survey we distributed, which can be found in the appendix. Lastly, we’ve posted a companion video walking through the analysis (found here) and we’ll also be hosting a Twitter Space, co-hosted with @UniswapFND on Wednesday at 11 AM EST this week to answer any questions.

Looking forward to thoughts and feedback from the community.

Jordan & Sam

Alastor

12 Likes
2

My remarks:

  • large positions are more often found on lower tier pools because LP know that those positions will have to actively move it (which is costly, which in turn is not feasible if your position is small) – this hypothesis can and should be validated

  • APY comparison using volume/tvl between different fee tier pools is almost useless given different liquidity distribution in different pools. One way to compare it is to compare “price path” (accumulated price change) adjusted for fee tier between pools.

  • If the goal of enabling fees is to increase volume and Uniswap is already dominant in AMM space (in terms of volume), what would be the source of this volume?

3

Curious to hear what community thinks about turning fee switch on Polygon first before Ethereum mainnet.

Pro: if fee switch causes TVL to migrate off Uniswap rather than into lower fee tiers, hurting network effects, it would not impact the L1 deployment with lion’s share of volume. Polygon is also in top 5 DEXs in terms of volume these days (https://www.coingecko.com/en/exchanges/decentralized)

Con: unclear whether Polygon implementation has enough volume/TVL for any results to be meaningful to interpret. ~2% of TVL (Uniswap: TVL and Stats - DefiLlama) and ~11% volume (Top Decentralized Exchanges Ranked by Volume | CoinGecko) as of today.

I don’t have a strong opinion, but would be curious to hear others thoughts

3 Likes
4

This is an interesting point but we considered it to be a bit of a chicken and egg issue, in general though I couldn’t agree more that a deeper dive into LP strategies, behaviors, and “true” returns is a no-brainer use of time and resources. Another factor to consider for higher fee tier pools being smaller/more passive is simply due to the default settings on the Uniswap frontend directing less-sophisticated liquidity to these pools, that and the fact that “fee size” is a bit of a misnomer for LPs who have a more shallow understanding of the protocol.

This is definitely a simplistic metric, simply meant to demonstrate fees generated per $ of invested capital. While not all that useful when considering individual LP returns, it is useful in comparing aggregate pool performance, irrespective of TVL distribution within each pool.

There is still DEX volume to be taken (particularly in some pairs more than in others) but honestly the most important thing imo is positioning Uniswap to take share of volume that moves on-chain in the future.

5

So Uniswap will be in better position to attract liquidity from LPs because LPs on Uniswap will earn less fees than before? This seems counterintuitive at best.

If it’s desirable (which I’m not sure it is) that high volatility pairs with lots of one directional volatility potential (like ETH/USDT) should use fee % that’s better than almost all CEXes, perhaps some incentives are better idea than forcing that move by imposing fees?

6

Very thorough report. I think this type of research is hugely beneficial to the community, thank you.

Comments:

  • To what extent are your results based on current market conditions? I would assume that sophisticated LPs tend to sit in lower fee tiers as a result of low demand for their liquidity. In a higher volume/volatility environment how would your analysis change?

  • The conclusion states the fee switch should be applied to improve ‘platform health’ (ie. encourage LPs to move to high income pools). Have you given any thought to how we might quantify platform health?

To @devinwalsh’s point: My perspective would be to test the fee switch wherever has the highest signal test result. So Eth over Polygon

7

Great report. When is this slated to be voted on? @devinwalsh is it December 1st still?

8

Believe that is what was last communicated by the folks who are pushing forward the proposal. @Leighton & @guil-lambert can confirm though

9

Thanks for the questions.

Re: Market Conditions - we tried to analyze and measure market share vs. simple volume to account for market conditions broadly speaking. We didn’t specifically look at how LP behavior varied based on market volatility but it’s an interesting point and would definitely be something worth looking at. As I mentioned above, a deeper dive on LP returns and behaviors broadly speaking (even absent fee switch ramifications) would be a worthwhile use of time and resources imo.

Re: Platform Health - we would tend to think about platform health on a pair-by-pair basis, considering the share of the overall market, the weighted average trading fee (ie total fees / total volume), and liquidity turnover (ie volumes / TVL in a given period) as a few indicators.

10

Do @Leighton & @guil-lambert even have the votes necessary to start an on-chain vote? Can UF help them?

11

UNI holders that do nothing should be rewarded the same as UNI holders who participate in the protocol.UNI holders who actually do something should be rewarded as well, they help the community. What can they do ? 1. Lend UNI at low cost 2. LP in UNI/Alts UNI/stables pools. 3. What else ?