I couldn’t help noticing that this discussion, for the most part, is based on assumptions made from non Liquidity providers about liquidity providers.
This is why I decided to share my input.
We are one of the few big liquidity providers. We provide liquidity to 2 pools. The combined liquidity is usually in the $500,000.
If the fees are pegged to 0.15% that would automatically wipe the fragile economy for both pools that we own, and the proposed change would cause a spiral downfall in liquidity as risk/reward would not be justified to put this capital at risk with such a low income -> which on its end will cause a downfall to usage.
Or in other terms, low APR will dramatically and instantly reduce the size of the pools. This on its end will dramatically increase the slippage for a transaction.
The total cost of a trade is the combination of the two: Slippage + fees.
Believing that you will decrease total costs by reducing fees greatly at the expense of slippage is fundamentally wrong because, fees reduction, in the context of APR impact, could have a disproportionate negative increase in slippage that would result in a net negative change of total costs related to the same trade.
When volume is low, in order to incentivize LPs to provide liquidity, you need a competitive APR. APR comes as the sole metric that attracts LPs. If APR is low, capital will flow out to other more attractive solutions.
Coming up with a competitive APR is not something that can be achieved with a single 0.15% setting for all pools.
What would be the right approach?
Use empirical data to micro fine-tune each pool. By default, pool owners have this flexibility right now by monitoring how their pool competes with other pools and micro managing these settings.
In order to give an example of what this means, approximately 2 months ago, we have set USDT/BNT pool with a $300,0000 combined capital ($150k per side).
At the time of setting, the pool, we have decided to try out a relatively high commission fee - 1.5%.
This decision was also based on some playing with public aggregators, such as 1inch.
You can see that back then, even with a 1.5% fee, our pool was measuring 80% vs 20% of according to 1inch.exchange for all BNT-> USDT trades for a 4k BNT order sample.
What this means is that, at any given moment of time, if any person on the planet wanted to convert 4k BNT directly to USDT, the pool would receive approximately 80% of that “organic traffic”. And since that pool is permissionless, it would benefit the whole Bancor Dex. At that moment APR was not yet shown as the old bancor UI was still present, but we managed to achieve a very high APR while facilitating cheaper BNT-USDT transactions.
At that point, the organic APR was in the 18%-25%. Preserving it high takes active management on the converter through which any other LP could benefit at any moment of time. I am confident that if we had kept it this way, it would have reached 30% and more, potentially attracting milions of dollars in liquidity (meaning millions of USD converted also into BNT).
It also means that we were able to solve the chicken-or-egg paradox with putting capital at risk for a new converter. And as traction improves and liqudity grows, the fee of course can be decreased to ensure we remain competitive when measured against other dexes, while capturing an even higher percentage of the total traffic.
Decreasing the fee, monitoring the volume and APR and ensuring that the APR as a standalone metric is more competitive than the one of competing DEX ecosystems. That was the key in our strategy.
The impact of the new converter -> on one side, the consumer wins, because he gets a more competitive place from where he could convert BNTs to USDT. And on the other side, a relatively high APR for LPs, that creates demand from LPs to migrate from other DEXEs to Bancor. A Win-win.
Also, it is critical to understand that arbitrage bots generate a relatively high percentage of “inorganic” traffic. We tend to call it this way, because, although it generates fees, that is always associated with impermanent loss.
So what followed after that was a complaint in the community group that the USDT fees were “crazy high”. A statement that although might seem justified, at first sight, was not backed by any empirical data.
We reduced the fees to 0.75% (did that mostly out of pure respect to the BNT team, as they were obviously getting a lot of pressure because of the way we managed the converter). We also reduced the liquidity as a way to tackle the price volatility risk exposure of BNT. The effect is a net negative increase in the total costs for a trade, as well as a net negative change in liquidity. A lose-lose scenario.
A quick check right now on the same transaction shows that BNT->USDT pool is not competitive anymore and the traffic goes mostly through Uniswap. The organic APR ranges in the 3-4% which is very unattractive. IT occasionally has a false positive spikes due to arbitrage (since fees generated from arbitrage are directly related to impermanent loss).
The new pool now is completely taken out of circulation, as the trade happens via Pathfinder > BNT/ETH and then taking that ETH to Uniswap. This means that Uniswap creates a 3:1 economy to its liquidity providers, while participating with the same level of weight.
This also puts an important perspective. BNT/ETH is a subsidized pool by crowdfunding and it is not driven by the liquidity providers market economy. This is also why it had been kept at 0% for almost 3 years.
I think comparing Bancor to Uniswap is fundamentally wrong, because Uniswap has a entirely different risk geometry.
With Uniswap, the main drivers of growth were the stablecoin pools, that completely eliminate price volatility risk. At some point, there were pools that were stablecoin-stablecoin with an above 20% APR. Hence why they can afford relatively lower fees (0.3%). In the world of investing, it not only matters what return you get on your investment but also what volatility risk you go through in the process of earning that return. This is also known as the Sortino ratio. Generally speaking, the more “boring” a path to a higher return is, the more optimum Sortino ratio it has, and hence a better option is for investing, because opportunities with similar ROI are plentiful but each path has different levels of implied stress.
Based on the new data, confirming the decrease in BNT/USDT traffic as well as the much much lower APR, now the only business solution that we can make is to put that capital to work on a different place. Or in other words, decrease the liquidity further.
This also raises the question, who will be the person to risk a considerable amount of capital.
The current situation with BNT is a chicken-or-egg.
The fixation of the fees, will not change anything because for the most part, Bancor’s system is not driven by free-market Liquidity providers. It is driven by a core of own-token liquidity providers (projects which provide liquidity to their own token as part of supporting their own trading infrastructure). For these actors, APR is not much of an importance.
So with this being, said I think the 0.15% will offer a significant limitation as it will prevent new LPs to backtest, optimize and aim for positive economic streams.
What I propose:
Keep the flexibility of the trading fee, and adapt it so that it can empower liquidity pools to be fine tuned for their unique purpose. Publicly available tools such as 1inch.exchange give a unique reverse engineering way to backtest and fine-tune your pool settings.
Ideally, converters should be able to attract some portion of organic traffic as shown by the aggregators (e.g. 50%). This can be achieved by a combination of
- High Liquidity
- Properly configured fees
Only after these details are thrown into the mix, will Liquidity Providers be interested enough to put significant capital under risk. Otherwise it would all come to Bancor solving the chicken-or-egg problem, where eventually they will need to commit funds from their own crowdfunding fund to kickstart some critical stablecoins liquidity pools until they eventually reach to a point of attracting some volume and establishing some APR.
Also don’t forget that LPs don’t benefit from the 2 hops. Having 4 instruments means more risk with less combined liquidity.
This automatically will make Bancor’s 0.15% fees 2x less attractive than Uniswap.
An ideal solution would be a price discoverability oracle that could use tools such as 1inch, and turn the fee from a fixed one to a dynamic one (e.g. updated once a day), that always ensures Bancor’s pools are competitive enough to get organic trades traffic while they are aiming for optimum APR in order to have a net positive flow of external, market-driven liquidity providers. With that setup, the APR will be defined by the maximum potential while ensuring maximum competitiveness of the dex as a system.
BNT has a serious implied volatility and expecting LPs to risk e.g. $200,000 when BNT makes swings with +/- 20% on a daily basis in exchange for a 5% APR is not sustainable. Our sense as market driven LP is that Bancor will be a high-risk/high-reward DEX (as identity and utility) and its true potential will come with positioning itself in this way precisely through the use of the flexible fee. Control and fine-tuning capability that comes a unique competitive advantage over Uniswap.
Emphasize should be on total cost and APR, and not on fee settings. Fee is just one variable of the equation. In the current case it is holding Bancor back as people are fixating on the fee while damaging the APR and total cost. Either way the future is in the use of aggregated interfaces as they have a clear and immediate economic impact on the trade outcome. And most of these aggregators have already completely disregarded the “fee” as a determinant factor. Bancor’s interface would be much more important in the APR in this context.
