Maximizing Capital Efficiency on DEXs Will Improve Global Adoption

Decentralized exchanges (DEX's) provide a non-custodial trading solution for crypto investors, allowing them to maintain control of their funds at all times.

Investors being able to trade whilst maintaining control of their funds was a vision for a long time in the crypto space, even before the market chaos caused by successive attacks on centralized exchanges like Mt.Gox. 

However, the concept really began to take off once exchanges like Uniswap pioneered the automated market maker (AMM) smart contract.

Now, DEXs are the most popular class of decentralized applications, with the top five DEXs accounting for over $36 billion in value. 

But the exponential growth we’ve seen in DEXs may soon reach its peak.

The Adoption Curve of DeFi

The cryptocurrency market really started to grow once institutional investors got involved in the space.

Deeper liquidity allowed more value to flow into the market, increasing the total marketcap exponentially.

We also saw the arrival of traditional financial instruments such as derivatives, which in turn caused more value to flow into the market.

However, there is a problem when it comes to DEX's, and the problem is that the current AMM DEX model doesn’t allow traders to maximize their capital efficiency. 

This is due to the fact that, as the market has grown, liquidity has become fragmented over multiple exchanges and many different liquidity pools. 

If a trader wants to place large orders relative to the size of the pool, there’s a huge risk of slippage due to the imbalance of liquidity. 

This is a problem that only becomes magnified with larger trades.

Effectively, the higher the value of a trade, the more likely it is for a trader to experience price slippage on an exchange using liquidity pools.

The amount of slippage also increases as the value of the trade grows.

One way traders can avoid this issue is by specifying a higher gas fee. hoping that the transaction will get confirmed faster and reduce the risk of slippage. 

It’s a solution of sorts, but it only guarantees that you’re spending more in fees rather than guaranteeing you don’t experience slippage – which is a risk, but not a certainty. 

The Order Book Makes a Comeback

There’s another, more sustainable way around the problem that might prove to make a decentralized exchange significantly more attractive to pro traders. 

Traditional exchanges have always operated using an order book to match buyers and sellers, allowing greater flexibility. 

Rather than straightforward token swaps, they can implement more sophisticated trading strategies using limit and conditional orders to automate their activities.

Dexalot is now seeking to stand apart from the crowd of AMM-based exchanges by landing a central limit order book (CLOB) exchange right in the middle of the DeFi landscape. 

In the earliest days of DeFi, it’s doubtful that the space had enough liquidity to sustain such a model. 

However, now that DeFi is a $200 billion market, the sector is a very different space.

An exchange with a central limit order book (CLOB) in an AMM dominated market could be attractive to traders who are eager to avoid high slippage. 

The Dexalot platform enables traders to place limit orders fully on-chain, providing potentially limitless flexibility over order size by removing the constraint of small, illiquid pools. 

Traders place their order and specify their price, and if there is an existing order in the book, it’s executed immediately as a taker order. 

Otherwise, it’s added to the order book as a maker order. Partially filled orders are also supported on the platform.

Since Dexalot is based on the Avalanche blockchain, traders are able to execute trades almost instantly and at a lower cost.

This was a huge factor in implementing the CLOB model, as early Ethereum-based DEXs couldn’t attract market makers precisely due to the high fees and slippage risks. 

Dexalot launched in August 2021 and was well received by the Avalanche community.

The protocol now supports over 12,000 users and has received a seed grant from the Avalanche Foundation.

As DeFi continues to grow in popularity, the industry will need more tools and protocols to prevent unnecessary losses, whether it be high gas fees or high slippage on DEX's.

Traders and investors could be deterred by the thought of losing money through high slippage whilst trying to buy tokens through a DEX.

This is why it's important for developers to build platforms and offer tools that enable investors to maximise their capital efficiency.

Investors will be more likely to choose platforms that enable them to preserve more of their funds.