Despite being less than five years old, DeFi is responsible for a slew of innovations that have transformed money markets, both onchain and off. Yield farming? That was DeFi, and has since been borrowed by CEXs seeking to offer new products to their captive audience.
Token launchpads; NFTs denoting liquidity positions; collateralized stablecoins and tokenized RWAs. You name it, DeFi did it first before other players – both in CeFi and TradFi – grabbed the baton and ran with it. Institutional investors might not be enamored with everything that emanates from the onchain melting point (the less said about algorithmic stablecoins the better) but it understands that there’s value in markets that operate 24/7 without middlemen or geographical restrictions.
But while DeFi’s headline-grabbing breakthroughs are easy to reel off and relatively easy to replicate – up to a point – on centralized rails, there’s one under-the-radar innovation that TradFi has been fading hard. In doing so, not only is it leaving money on the table but it’s missing out on a technology that has the potential to transform global financial markets for the better, be they decentralized, centralized, or a fuzzy hybrid combination thereof. We’re talking about permissionless market making, a small leap for DeFi that could represent a giant leap for global markets.
Market Making Minus the Maker
You can’t have market making without the maker, right? These centralized and highly liquid enterprises are the lifeblood that keeps global markets – both crypto and traditional – ticking over by matching bids and asks. Through narrowing the spread between buy and sell orders, and ensuring trades can be executed without major slippage, market makers provide a vital service across centralized and decentralized crypto exchanges.
The role of market making is usually handled by professional trading firms with the assets on hand to direct millions of dollars in liquidity to where it’s needed and the proprietary algorithms to use it as efficiently as possible. But there’s a radical change taking shape onchain that’s upending the way market making is conducted. The same smart contract technology that enables self-executing agreements coded on blockchains such as Ethereum is also being used to support permissionless market making. This is market making minus the middleman.
The most obvious example of this technology in action can be seen with AMMs such as Uniswap, which automatically price tokens according to the relative quantity of them placed in a liquidity pool. This ability supports a permissionless market in which prices adjust in real-time in accordance with supply and demand. But the AMM model is merely V1 of permissionless market making, whose DeFi – and CeFi – applications extend much further than facilitating simple token swaps.
This Changes Everything
Permissionless market making enables anyone to provide liquidity and facilitate trades without requiring approval from a central authority. It’s an approach that eliminates the need for intermediaries, supporting marketplaces that operate globally around the clock without requiring oversight. Buyers and sellers can have orders executed at their desired price point, while permissionless market makers supply the liquidity and earn a fee for each trade they facilitate.
But permissionless market making does more than simply enhance onchain liquidity without needing to wheel out the big guns – the Wintermutes and DWFs. It also supports the creation of diverse financial products, from lending to derivatives, all accessible without traditional gatekeepers. In other words, it’s a valuable DeFi primitive in its own right that can be utilized in an array of creative ways.
Silo Finance, for example, whose onchain lending protocol supports borrowing of various crypto assets, is just one protocol that has adroitly tapped into this trend. Built on a foundation of programmable DeFi blocks, Silo creates permissionless and risk-isolated money markets, offering a novel approach to liquidity provision. Its V2 iteration also addresses systemic risks such as insolvency or hacks by segregating funds into distinct markets.
Silo Vaults, a permissionless layer designed to manage liquidity across Silo markets and other DeFi lending platforms, builds upon this foundation. In the process, it demonstrates the versatility of being able to create financial products that aren’t just fully decentralized, but also fully permissionless.
This same playbook is also being used by DeFi protocols such as dYdX, whose introduction of permissionless market listings, complete with liquidity that is automatically deployed from a master pool, enables anyone to create a trading pair of their choosing. No protocol authorization or community voting required. It even supports the creation of permissionless prediction markets, allowing users to unilaterally add any Polymarket option to dYdX.
TradFi Could Learn Something
While permissionless market making is a DeFi innovation, it also holds benefits for CeFi platforms, which operate as centralized intermediaries between TradFi and DeFi. CeFi entities, such as exchanges like Binance or Coinbase, can integrate these permissionless markets to offer their users access to high-yield, risk-controlled opportunities.
This integration could include tapping into DeFi liquidity pools or leveraging protocols like Silo Vaults to provide exposure to markets that might otherwise be inaccessible due to regulatory or operational constraints in TradFi. For CeFi, this represents an opportunity to bridge the gap between centralized convenience and decentralized innovation. In doing so, they can enhance their service offerings, attracting users seeking the benefits of DeFi, such as sustainable yield, while retaining the trust and support structures of centralized platforms.
Where Next for Permissionless Market Making?
The rise of permissionless market making represents a fundamental shift in how financial markets can operate. For DeFi, it provides a versatile foundation for innovation to thrive, driven by protocols that prioritize risk isolation and liquidity optimization. For CeFi, it offers a pathway to evolve by incorporating these decentralized elements, potentially unlocking new revenue streams and market access.
As institutions witness the power of a trustless, permissionless financial landscape, there’s a lot that can be learned. We’ve already seen DeFi innovations permeate the CeFi landscape, and TradFi players in turn enter the industry through centralized exchanges. In the great marketplace of ideas, permissionless market making is an idea whose time has come and whose global applications are only just starting to be discovered
Don’t be surprised if you start to find the concept cropping up in places that have little connection with decentralized finance. The distinction between traditional and decentralized finance is becoming increasingly blurred, with permissionless market making poised to be the next primitive to make the leap from onchain to off, transforming everything it touches.