Glassnode Latest Research Report Leading Projects Performing Well, Is DeFi Making a Comeback?

Source: Glassnode

Translation: LianGuaiBitpushNews Tracy

The regulatory environment in 2023 has been a tug of war between positive and negative news, with the greatest impact on altcoins and DeFi tokens. With significant outperformance by MKR and COMP in recent weeks, we explore how to extract information from changes in decentralized exchange (DEX) liquidity.

Executive Summary:

1. Several positive developments in the digital asset industry and progress in the DeFi space have sparked investor interest in DeFi tokens.

2. The increased interest in DeFi tokens has caught the attention of market makers, who have increased liquidity in the corresponding pools, indicating a positive outlook for trading and price activity around these tokens.

3. Further analysis of Uniswap’s trading volume distribution shows that a significant portion of the trading activity can be attributed to bots, which primarily focus on ETH-stablecoin trading pairs.

Are altcoins back in favor?

In the past few months, the altcoin market has been caught in a tug of war between positive and negative news events, driven by several key developments:

In early June, the U.S. Securities and Exchange Commission (SEC) designated 68 cryptocurrencies as unregistered securities, dampening interest in altcoins other than Bitcoin and Ethereum. Prior to this news, many of these tokens were already performing poorly, as we mentioned in our report “Navigating the DeFi Downtrend.”

The applications for Bitcoin exchange-traded funds (ETFs) by financial giants like BlackRock and Fidelity have boosted market sentiment and spilled over into the realm of digital assets beyond Bitcoin.

In addition, the lawsuit between Ripple Labs and the SEC in mid-July concluded that the crypto company did not violate federal securities laws by selling its XRP tokens on public exchanges, sending a positive signal to other U.S. crypto projects and the entire industry. The victory for XRP provided some hope for altcoin investors, who believe it has some resilience against further regulatory actions.

Notably, tokens associated with the DeFi space have performed the strongest, with our DeFi index price rising 56% since its low point on June 11. In comparison, other key market sectors such as GameFi and Staking have underperformed.

Our DeFi index consists of the top 8 DeFi tokens by market capitalization and has established an upward trend against ETH for nearly two months. This is the first time it has performed well since September 2022, and the performance so far has been very similar.

However, if we look at these eight DeFi tokens individually, two tokens stand out in driving this trend: MKR and COMP. Upon careful observation, we can see that this performance is likely closely related to the fundamentals of the new projects rather than broader market developments.

On June 28th, Compound’s founder and CEO Robert Leshner announced that he would be leaving the lending protocol and launching a new project focused on bringing regulated finance to blockchain networks. Following this announcement, COMP token saw a rise of up to 83% within a week.

Around the same time, MakerDAO launched its smart burn engine, a buyback program that uses excess DAI owned by the protocol to purchase MKR from the Uniswap pool. The expectation of removing approximately $7 million worth of MKR within a month led to a price increase of up to 43% within a week.

By analyzing the trading volume flow of the top eight DeFi tokens on decentralized exchanges (DEX) and centralized exchanges (CEX), we can see a new round of interest in DEX activity. In early June, the relative trading volume share of DEX trades was 3.75%, which has now increased to 29.2%, approaching the highest level in the second half of 2022.

Hybrid Types of Uniswap Trading

With the growth of DEX activity, we can investigate the impact of these recent developments on DEX activity and the potential implications for stakeholders. Our main focus will be on the leading DEX platform, Uniswap, which has also been the highest gas-consuming platform in the past week.

As for the trading volume on Uniswap on Ethereum, the current weekly trading volume is $5.57 billion, still significantly lower than previous years’ levels. In early 2023, there was a surge in trading volume due to the interest in yield farming tokens and a slight rise in “meme” tokens for a period of time, but then gradually declined.

From this perspective, we can see that the recent excitement about Bitcoin ETF applications and the Ripple judgment with the U.S. Securities and Exchange Commission (SEC) did not significantly increase trading activity on Uniswap.

By studying the distribution of Uniswap trading volume on different Layer 2 networks, we can get a clearer picture. It is evident that a significant portion of the trading volume has shifted from the Ethereum mainnet to Arbitrum, attracting up to 32% of the trading volume in March. This trend has continued in June and July, partially explaining the lower trading volume on Ethereum that we observed above.

Robots vs. Humans

Looking at the background of Uniswap trading activity from another perspective is observing the types of traders executing the trades. Since 2019, we have seen the emergence of various MEV (Maximize Ethereum Value) robots, which are automated programs that monitor the blockchain to detect profitable trades and exploit them. In this analysis, we will only focus on two types: arbitrage robots and sandwich bots.

The arbitrage robot aims to profit from the price differences of the same token pairs between different decentralized exchanges (DEXs) and centralized exchanges (CEXs).

The sandwich robot inserts its trades in front of the target trader (assumed to be a buyer), causing the trade to be executed at a larger price difference. Afterwards, the sandwich robot sells the assets again to close the price difference, maximizing value for both parties.

The chart below shows the proportion of trade volume from robot trades and human trades in Uniswap trading on Ethereum.

We observe that sandwich robots typically account for over 60% of the daily trade volume. The trade volume share of arbitrage robots has dropped from around 20% at the beginning of the year to 10%. Meanwhile, since early July, the trade volume share created by human traders has increased to 30%, coinciding with a period of increased interest in DeFi tokens.

Please note that this classification is the result of the first iteration of Glassnode’s newly developed heuristic algorithm, which is still actively being developed. For this iteration, we have set fairly conservative criteria for classifying robots, especially arbitrage robots.

Furthermore, please note that different types of robots will create different numbers of trades and trade volumes. For example, sandwich robots execute at least two trades, resulting in twice the trade volume of a single trade by a human trader.

As different types of robot attacks may inflate trade volumes in different ways, the daily number of trades by trader type provides another comparative perspective.

We can see that human traders are very active during major events such as USDC unlocks or meme token frenzies. As price volatility intensifies and “target traders” flock in, arbitrage robots and sandwich robots also follow closely, increasing their activity two to three times during peak periods of increased human trading activity.

The interactive chart below shows the tokens and pools preferred by each type of trader, and all three types of traders clearly favor the largest and most liquid token pairs ETH-USDC and ETH-USDT.

Liquidity Pools as Information Markets

Since the launch of Uniswap V3, liquidity providers can allocate liquidity within specific price ranges in the pool. Unlike dispersing liquidity across an infinite price range, liquidity can be more efficiently concentrated around the price range where investors expect the highest trading volume (to capture fees).

Since the announcement of the Maker buyback program, the most successful Maker liquidity pool on Uniswap V3 is the MKR/WETH pool, which has experienced significant growth in liquidity.

Although the pool traditionally held MKR funds, the liquidity depth of WETH has grown by over 700%. This indicates that liquidity providers are signaling higher trading volumes for the MKR-WETH trading pair.

When reviewing the composition of the pool, we can clearly see that the share of WETH has increased, now accounting for 21.2% of the total. This is the result of traders increasingly using WETH to purchase MKR, indicating a significant increase in demand for MKR since early June.

Finally, we propose the idea of how the Uniswap liquidity pool can serve as an information market reflecting the expected price development of tokens. If we closely observe the portion of the MKR-WETH liquidity pool that exceeds the range, we can clearly see liquidity rising at price points well above the MKR/ETH exchange rate.

When liquidity providers move funds to higher price ranges, they are effectively expressing a call option on income at higher price points. Under the assumption that liquidity providers are rational profit-seeking participants, their liquidity movements may provide insights similar to options markets for predicting the expected volatility and range of the tokens of interest.

Summary and Conclusion:

In 2023, the regulatory environment for digital assets has been constantly changing, with positive and negative news intermingled. In recent weeks, especially DeFi tokens have experienced exceptional performance, with MKR and COMP leading the way. However, by examining trading activities on Uniswap, we find that these price increases have not been reflected in the trading activity on decentralized exchanges.

This can be explained by the growth in trading volume on second-layer solutions like Arbitrum, while human traders have lower participation. Due to less human trading, arbitrage and sandwich bot activities are correspondingly reduced.

As for MKR, in the Uniswap liquidity pool, the increase in liquidity provided by market makers is significant, indicating their expectation of increased trading volume. Based on this, we propose a concept that the distribution of liquidity may provide information about the expected trading range for the discussed token.

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