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Automated Market Maker Exchange Bancor has one new mechanism which allows users to increase their capital efficiency while providing liquidity in their pools.

The solution, called Vortex, allows users to provide liquidity in BNT, Bancor’s utility token, to borrow money while still getting returns from swap fees.

The Vortex mechanism reworks the existing mechanism of vBNT, a special version of the BNT token that gives users the right to participate in governance. The voting token is automatically received when BNT is deployed in a liquidity pool and can be defined as Bancor’s pool token.

The Vortex proposal adds functionality to vBNT, creating an infrastructure that allows users to sell the token for the original BNT. Once converted vBNT, users can swap it into another asset.

The vBNT sales mechanism turns Vortex into a no-liquidation loan platform, allowing liquidity providers to receive their future rewards immediately, in the same way as AlchemixAs their principal continues to accrue swap fees, the loan will eventually pay for itself.

The ‘non-liquidation’ portion of the loan stems from the fact that vBNT and BNT are essentially the same token, and the price increase of the BNT collateral is most likely reflected by vBNT. BNT staking creates vBNT with a one-to-one ratio, but the price ratio between the two is not easy.

Combining protocol revenue and lending results in complex tokenomics

The price of the vBNT token is derived from a BNT / vBNT AMM pool, so it is largely determined by the market. A potential arbitration mechanism means that it is unlikely that vBNT will ever be worth more than 1 BNT, as arbitrators can simply bet BNT, sell the vBNT, and get more BNT than they started with. The cycle can be repeated an infinite number of times until the vBNT price returns below 1 BNT.

At the same time, vBNT does not have a floor price because the arbitration mechanism cannot work in reverse. As Mark Richardson, the creator of Vortex, explained to Cointelegraph, Bancor uses internal records to define ownership within an AMM pool. This is a significant difference from models such as Uniswap’s pool tokens, which are the sole marker of liquidity ownership. The vBNT could only be used to redeem a BNT liquidity pool if that address had already created one.

To ensure that vBNT retains some value in the absence of a redemption mechanism, the protocol executes a buyback-and-burn strategy on the token. A governance-determined portion of the protocol fee revenue will be diverted to periodically purchase and destroy vBNT from the pool of BNT, creating constant buying pressure.

This has the added result of creating a well of BNT and vBNT. Since one vBNT unlocks one BNT, destroying vBNT inventory creates an imbalance with the tokens in AMM pools. Some of those tokens would thus remain locked up in the pools forever, although due to the high overcapacity, this should not affect the liquidity draw for individual LPs – a similar mechanism occurs with cold wallets on centralized exchanges.

The vBNT token mechanics has some interesting ramifications. In addition to the ability to borrow while continuing to receive returns, liquidity providers can also use their liquidity to receive more swap fees. The price of vBNT directly affects how the system can be used as prices close to 1 BNT could support near infinite leverage. At the same time, the price of vBNT is likely to fall and limit the leverage multiplier as more LPs enter positions with leverage. An infinite leverage situation would take value from the protocol, but Richardson is convinced that the market-based pricing mechanism makes it quickly costly and ultimately impractical.

Liquidity is no longer an issue, but volume is lagging

The Bancor protocol has deployed all possible means to get liquidity into the protocol. Between the innovations of unilateral liquidity provision and temporary loss insuranceintroduced with V2.1, it has also launched aggressive liquidity mining programs. The Vortex proposal is yet another instrument that could attract liquidity by introducing leverage on SMP pools.

Bancor’s liquidity campaign has been a demonstrable success. With a total value of $ 1.8 billion locked, it broke into the “billion dollar TVL club” to become 8th in the decentralized stock market rankings at DeFi LamaWhile lagging behind most of its direct competitors, such as Uniswap or SushiSwap, Bancor has grown much faster when it started the year with just $ 140 million worth of TVL.

However, the liquidity growth has not automatically resulted in more volume. Although Bancor in the top 5 based on volume on Ethereum at $ 430 million per week, Uniswap dominates the market, pulling almost 17 times the volume, despite only having slightly more than twice the TVL. According to Richardson, the Bancor team may have had wrong expectations in the pursuit of liquidity:

“There was this assumption, I would say – and we might not even know it was an assumption – that if the TVL gets high enough, it will only attract traders. […] And if everyone is using aggregators then that’s really good for us because we just have to offer the best product at the lowest rates and traders will just use us. “

The reality turned out to be less idealistic than expected, the team found. “It turns out that no one uses aggregators and traders hardly ever use the pools with the best rates,” added Richardson. “They just do what they are going to do.” Nate Hindman, head of growth at Bancor, had his own take on why Uniswap is so dominant:

“I think a lot of that has been this kind of ‘Uniswap gems’ movement that was a DeFi Daylight Saving Time, where all these new tokens are launching pools on Uniswap. So Uniswap is the only place to get these ‘gems’. “

Hindman’s estimate appears to be in line with Uniswap’s volume data. According to his statistics, the volume distribution is very skewed to smaller tokens. Pairs between Ether, Bitcoin and stablecoins take up about 25% of the total volume, while the rest of the list is largely filled with low capitalization tokens that are difficult to access on other platforms.

As Hindman revealed, capturing the “long tail of tokens” will be Bancor’s next main goal. One possible proposal for this is the Origin Pool, which makes it possible to create “synthetic” pools linked to ETH that are seamlessly replaced by BNT by the protocol. This would solve a long-standing onboarding friction for Bancor, as projects that wanted to be listed would have to keep BNT in addition to their own token.

After the Uniswap V3 announcement and the strong focus on swap efficiency – partly at the expense of the automation of the liquidity pool – it became clear that SMP projects are beginning to diversify into different niches. With SushiSwap’s focus on additional features like margin trading, Balancer’s drive for composability, and Bancor’s approach towards the LP and BNT token, the SMP space is becoming more and more varied.