The "death spiral" risk hidden behind the dYdX trading frenzy

Author: Kyle

Editor: Wenda

The decentralized derivatives trading protocol dYdX has become a phenomenal application in the current DeFi market.

According to data from CoinMarketCap, as of 2 PM on September 28, dYdX's 24H trading volume reached $9.531 billion, ranking first among all DEXs, with its trading volume approximately 6.8 times that of Uniswap V2 + V3 during the same period. This achievement is impressive even among mainstream centralized exchanges (CEXs); in the same 24H period, the combined trading volume of Coinbase, FTX, and Huobi Global was only $9.023 billion.

The rapid expansion of dYdX's trading volume is attributed to its trading mining reward mechanism. According to the rules, dYdX will distribute 3.835 million platform tokens DYDX over five years, with every 28 days as a time node, to incentivize users to trade on the protocol. Recently, DYDX surged from $12.8 to a peak of $23, significantly increasing the arbitrage space for trading mining, attracting a large number of users to participate in volume mining.

dYdX's remarkable performance driven by the trading mining mechanism has evoked memories for many veterans in the industry. In 2018, Fcoin also gained immense popularity through trading mining, but due to the large number of "wool party" participants, it faced significant selling pressure on its platform tokens. As the token price plummeted, the influx of miners quickly dwindled, ultimately leading to the failure of Fcoin and many imitators.

Some participants have pointed out that dYdX faces similar risks. If the price of DYDX falls, the arbitrage effect may disappear, and the protocol's trading volume is likely to decline rapidly, leading to an expanded drop in DYDX and falling into a "death spiral." This individual cautioned that the recent surge in dYdX's trading volume has been mixed with a lot of bubbles, and users need to be particularly cautious whether they are purchasing tokens in the secondary market or participating in trading mining.

Trading Mining Boosts dYdX Trading Volume to Over 6 Times Uniswap

At 11 PM on September 28, the trading mining phase of the decentralized derivatives trading protocol dYdX "Epoch 1" ended. During the 28 days starting from September 1, dYdX's daily trading volume repeatedly hit new highs, surpassing Uniswap and Coinbase.

According to CoinMarketCap data, as of 2 PM on September 28, dYdX's 24H trading volume reached $9.531 billion, ranking first among all DEXs, a 74.6% increase compared to the previous 24H. In the DEX trading volume rankings, dYdX has completely crushed all competitors, even the market-recognized "DEX king" Uniswap cannot keep up.

In the same 24H period, Uniswap V3's trading volume was $1.105 billion, ranking second, but this achievement was only 11.6% of dYdX's. Even when adding Uniswap V2's trading volume data, Uniswap's 24H trading volume was $1.395 billion, making dYdX's trading volume approximately 6.8 times that.

dYdX leads the DEX trading volume rankings with an absolute advantage

It is no surprise that dYdX's trading volume has surpassed Uniswap; on the 29th of last month, its single-day trading volume reached $1 billion, overtaking Uniswap. Even more remarkable is that recently its 24H trading volume has also surpassed that of Coinbase, the largest compliant cryptocurrency exchange in the U.S.

On September 27, dYdX founder Antonio Juliano tweeted that dYdX's 24H derivatives trading volume reached $3.68 billion, surpassing Coinbase's $3.61 billion for the first time. This was seen as a historic breakthrough by the crypto community.

However, dYdX did not stop there. According to data from 2 PM on September 28, dYdX's 24H trading volume surged again to $9.531 billion, while Coinbase's trading volume was $2.9 billion. According to CoinMarketCap data, during this 24H statistical period, FTX, also known for derivatives, had a trading volume of $2.013 billion, and Huobi Global had a trading volume of $4.11 billion. The combined trading volume of the three mainstream trading platforms, Coinbase, FTX, and Huobi Global, was $9.023 billion, still less than dYdX.

dYdX seems to have leveled up, becoming a top player among trading platforms. What is driving it?

The secondary market may provide part of the answer. Between September 26 and 27, dYdX governance token DYDX rose from a low of $12.8 to a high of $23, an increase of 79.68%. The rapid price increase directly ignited dYdX users' enthusiasm for participating in trading mining.

Since the issuance of the platform governance token on August 3, dYdX has simultaneously started trading mining incentives. According to the rules, any user trading on dYdX can earn DYDX rewards. The trading reward period lasts for five years, with 3,835,616 DYDX allocated to trading users in each 28-day Epoch.

By the end of August, Epoch 0 had concluded, and the period from September 1 to 28 was Epoch 1. Notably, the DYDX rewards distributed in Epoch 0 and the tokens obtained by early airdrop users could only be claimed on September 8, the same day DYDX was listed on major trading platforms, marking its first price in the secondary market.

After initially landing in the secondary market, DYDX's price stabilized in the range of $10 to $15. According to calculations by users participating in trading mining, the cost of mining DYDX by trading on dYdX was below $10, leading a large number of users to specifically engage in trading mining on dYdX. As DYDX recently rose above $20, the arbitrage space for trading mining also increased, prompting protocol users to engage in cost-ineffective volume trading to earn more DYDX rewards, causing dYdX's trading volume to surge.

A dYdX user told Hive Finance that since the rewards released by the protocol in each Epoch are constant, the cost of acquiring DYDX increases with larger trading volumes. "Since DYDX surged recently, platform users have been competing fiercely, all trading madly to mine. Ultimately, the cost of mining each DYDX is around just over $10. If DYDX maintains a high price, there are still good returns."

Significant Side Effects of Trading Mining, Token Price Decline Poses Hidden Risks

The mechanism of trading mining rewards has allowed dYdX to achieve extremely impressive data, surpassing established trading platforms like Uniswap and Coinbase in just over a month. Such performance has clearly raised market expectations for it, further driving DYDX's continuous rise in the secondary market.

Everything seems to be developing positively, but it cannot be ignored that dYdX's rapidly expanding trading volume is heavily inflated. If trading rewards are no longer provided or if the price of DYDX falls significantly, the development of the protocol's ecosystem may be severely impacted.

In fact, trading mining is not a new concept. As early as 2018, an exchange called Fcoin gained immense popularity by introducing a trading mining mechanism. Similar to dYdX, trading on Fcoin could earn platform token FT rewards, attracting a large number of users to "shear wool." Soon, Fcoin's trading volume surged to the top among all exchanges. The influx of traffic once drove FT's price up significantly, allowing early participants to make substantial profits.

This model was quickly imitated by many exchanges, and trading mining became the hottest topic in the crypto circle that summer. However, its side effects soon became apparent. As FT's output increased, market selling pressure intensified, leading to a continuous decline in FT's price, reducing users' arbitrage space and causing trading volume to plummet. Ultimately, this feast lasted only a few months, and many FT holders suffered heavy losses as the influx of miners quickly dwindled due to the inability to earn profits. Today, Fcoin and its many imitators have long disappeared from the industry.

After this trend faded, the consensus among crypto practitioners became that "the single mechanism of trading mining is unsustainable." Now, dYdX is bringing trading mining back, and although the initial data performance is eye-catching, the risks lurking behind it cannot be ignored.

According to real-time data from the dYdX governance page, the current circulating supply of DYDX is 51.068 million tokens, while its total issuance is 1 billion tokens, resulting in a current circulation rate of 5.1%. It is expected that on October 6, the mining rewards for Epoch 1 will be fully distributed, at which point its market circulation will increase to 54.84 million tokens, and the circulation rate will also rise.

The current circulation rate of DYDX is 5.1%

In the short term, the selling pressure on DYDX is not significant, but the release of DYDX will gradually increase, especially after 18 months of token issuance, when a large number of tokens allocated to the founding team and early investors will be unlocked, potentially leading to significant price fluctuations for DYDX.

Currently, the main use of DYDX is to hold the token to receive trading fee discounts, but from the perspective of the aforementioned users, this use seems somewhat redundant at this stage. "Because the more fees you spend, the more DYDX rewards you can earn, everyone basically wants to spend more fees rather than reduce them, so the use case for DYDX is very limited."

This user revealed that if the returns from trading mining decrease in the next period, they will shift to centralized exchanges for trading. "Although the dYdX experience is quite good, depositing and withdrawing costs dozens of dollars in network gas fees, and the trading depth and functionality are slightly inferior to CEX."

Some participants have warned that most users are currently trading for dYdX's mining rewards, and if the price of DYDX falls significantly, the arbitrage effect will disappear, and the protocol's trading volume is likely to decline significantly. This may lead the market to lower its expectations for it, further causing the price of DYDX to drop, falling into a "death spiral" similar to Fcoin. This participant cautioned that dYdX's recent surge in trading volume has been mixed with many bubbles, and users need to be particularly cautious whether they are purchasing tokens in the secondary market or participating in trading mining.