0/ Uniswap only works because Ethereum is slow, *and* because Uniswap LP fees are expensive (30 bips)

Normally, when you combine two bad features, you get something extra bad

But in this case, negative * negative = (almost) positive

How can this be?

A thread https://twitter.com/SBF_Alameda/status/1316509291017203712

1/ To understand what I mean, let's just change the parameters

Lets's say that Ethereum block times were 100ms, and LP fees were 1 bip

What would happen?

2/ Anytime the price moves by 2 basis points, arbitrageurs will arb and take 1 basis point from the LP

The faster the block time, the more that arbitrageurs will take. To understand this, lets make this a tad more complex

3/ Lets say the price of some pair is going to move 10 basis points over the course of 10 seconds. So 1 bip / second

After 2 seconds, arbitrageurs take a bip

After 2 more seconds, they take another bip

repeat 3 more times

4/ The only saving grace is if non-arbitrage flow enters the picture

But in this example, every 2 seconds, the arbitrageurs take profit

So in this example, organic takers have up to 2 seconds to place a trade, otherwise LPs *lose money*

5/ Reality is worse than that

Prices don't usually move monotonically. they alternate back and forth

Lets say that the price moves 10 basis in total points over 10 seconds

But now for every 2 bips up, the price moves down on average 1.5 bips with standard deviation of .5 bip

6/ Now, the LP doesn't just lose 5 bips on a 10 basis point move, they lose something like 7.5 (ballpark, did not do the calculation)

7/ Now let's consider an alternate scenario

1 bip LP fees, but 15 second blocks

Let's also assume no MEV for simplicity

8/ Amazingly, by making the system slower, LPs gain

If the prices moves more than 1 basis point on a CEX during the 15 second window, there is more time for organic takers to place trades, rather than arbitrageurs

Slower block times give non-toxic a flow a chance to trade

9/ This is why Uniswap has fees so high: 30 basis points

It's the only way that LPs can survive

These fees are much higher than every other venue on the market

Uniswap kinda-works because of both 1) slow blocks 2) high LP fees. Those two features feed off of each other

10/ The Uniswap team has talked a lot about moving to a layer 2 with a fast, low-latency sequencer (maxing out single-threaded performance of the EVM)

This is great! Lower latency trading!

Except... arbitrageurs are going to wreck LPs. see above

11/ It's unclear how fees will be parameterized as latency decreases. But the point remains:

If you blindly quote prices, arbitrageurs will wreck you

The lower the latency, the faster they'll do it

{fin}