From Pioneer to Master, A Detailed Explanation of the Four Major Innovative Mechanisms of Uniswap V4

Written by: Daniel Li, CoinVoice

On June 13, Uniswap released the draft code for Uniswap V4, causing a strong ripple in the industry and becoming a hot topic in recent weeks. As the largest decentralized trading platform currently, Uniswap has long held over 50% of the on-chain trading market share, with trading volume more than three times that of its second-largest competitor.

The launch of Uniswap V4 will further solidify its position as the largest DEX in DeFi. In the documents "Our Vision for Uniswap v4" and "Uniswap v4 Core Whitepaper," Uniswap Labs detailed the customizable AMM Hooks, the Singleton that changes account frameworks and order logic, and the Flash accounting and Native ETH that can significantly reduce Gas fees.

These innovative features will bring greater freedom, better liquidity, lower fees, and more choices to DEXs. At the same time, they inject a catalyst into DEXs, which have long been at a disadvantage in the competition with CEXs, accelerating the pace at which DEXs catch up with CEXs, which will have a profound impact on the future development of DeFi.

Uniswap Leads the Development of the Entire DeFi Industry with Innovation

The upgrade of Uniswap V4 has attracted the attention of many institutions, partly due to the lawsuit against Binance, the world's largest CEX, by the U.S. Securities and Exchange Commission (SEC), which has raised concerns about the future development of CEXs. In contrast, DEXs, with their decentralized and censorship-resistant nature, have undoubtedly gained more favor. Moreover, as the industry leader, every version released by Uniswap has led the development direction of DEXs, inspiring imitators and driving the overall prosperity of DeFi. Let's review each historical version of Uniswap.

Uniswap V1 was the first official version, launched in November 2018. It provided trading between ERC-20 tokens and ETH, introducing the automated market maker (AMM) model that automatically adjusts token prices and liquidity, making token trading faster, simpler, and lower-cost. This approach also inspired many later decentralized exchanges and laid the foundation for the development of the entire DeFi ecosystem. During the same period, SushiSwap, Curve Finance, and Bancor all drew on the practices of Uniswap V1.

Uniswap V2 was launched in May 2020, further providing support for trading between ERC-20 tokens and introducing a liquidity mining mechanism that increased trading pair liquidity by rewarding liquidity providers. With the liquidity empowerment of V2, projects that emerged during the same period included Yearn.finance, AAVE, Compound, and Chainlink.

Uniswap V3 was launched in May 2021, introducing concentrated liquidity and price limit order (PLC) features. Concentrated liquidity allows market makers to manage funds more effectively, thereby increasing their profits and efficiency. PLC enables users to set upper and lower limits on trading prices according to their needs, allowing for finer control over trades. During the same period, Concentrated Liquidity and BarnBridge achieved higher efficiency and returns by utilizing the concentrated liquidity and PLC features of Uniswap V3.

Uniswap V4 is the upcoming new version. Although the specific launch date has not been announced, according to the information released by the project team, this version will differ from previous V1-V3 versions, focusing not on technological innovation from 0 to 1, but on a comprehensive disruption of DeFi's infrastructure. For example, V4 will provide token pools that can be created and managed independently, AMMs that can add new features through "hooks," and a large contract framework to replace the previous Factory/Pool model. These innovations will further strengthen Uniswap's characteristics as a decentralized trading platform and bring new changes and opportunities to the entire DeFi ecosystem.

Uniswap V4: Four Innovative Mechanisms to Build a True Infrastructure for DeFi

As an important participant and leader in the DeFi industry, Uniswap has played a crucial role in promoting industry progress and improvement. This time, Uniswap V4 will create an efficient, flexible, and low-cost infrastructure suitable for DeFi by introducing innovative mechanisms such as Hooks, Singleton, and Flash accounting, providing users with a better trading experience and more opportunities. Let's take a closer look at these new features of Uniswap V4:

Hooks

One of the key innovations of Uniswap V4 is the introduction of "hooks." Hooks are essentially external contracts created and defined by developers to execute trading logic. Through Hooks, developers can call external contracts to perform specified operations at specific points in the liquidity pool lifecycle (such as adding, adjusting, deleting, swapping, etc.), such as creating limit orders before a trade or adjusting trading fee levels after a liquidity pool position changes.

By adding the functionality of plugins through Hooks, Uniswap V4 becomes a customizable liquidity pool platform. This customizable feature is unattainable for centralized exchanges. Developers can freely innovate on this basis, creating various new functions to meet different trading scenarios, allowing liquidity to be more deeply tied to the project's development. Additionally, this customizable feature can inspire the imagination and creativity of developers and the community, further increasing the network effect of Uniswap V4, making it the underlying infrastructure of the entire DeFi ecosystem.

Currently, Uniswap V4 showcases the following hook samples:

• Time-Weighted Average Market Maker (TWAMM)

Traditional AMM market makers experience significant slippage when executing large trades due to price changes in the pool during the transaction process, causing inconvenience. TWAMM mitigates this by breaking large trades into multiple smaller trades, each completed over a period of time, thus reducing price fluctuations, lowering slippage, and providing users with a smoother trading experience.

• Dynamic Fees

Dynamic fees can be calculated based on factors such as the number of assets in the liquidity pool, trading volume, and volatility. When market volatility is low, trading fees decrease, providing a more competitive trading environment. Conversely, when market volatility is high, trading fees increase to protect the stability and security of the liquidity pool.

• On-chain Limit Orders

On-chain limit orders are implemented through a new contract type called Limit Order Contract, allowing users to automatically execute preset trading orders under specific price conditions. With on-chain limit orders, users can trade more flexibly to meet specific trading needs.

• Lending of Idle Liquidity

In traditional AMM exchanges, liquidity providers can only deposit assets into liquidity pools to earn trading fees and mining rewards. However, if liquidity exceeds a specific range, it may not maximize returns and become idle assets. In Uniswap V4, by introducing the Idle Liquidity Transfer Contract, liquidity that exceeds the range can be deposited into lending protocols, improving capital utilization efficiency and increasing sources of income.

• Customized On-chain Oracles

Customized on-chain oracles are implemented through a new contract type called Aggregator Contract. The Aggregator Contract allows users to select different oracle service providers, data sources, and calculation formulas based on their configurations, thereby achieving customized oracle services.

• Internalized MEV Profit Distribution Back to LP

In traditional AMM exchanges, MEV profits are usually captured by miners or other participants, while liquidity providers only earn from trading fees and mining rewards. By internalizing MEV profit distribution back to LP, liquidity providers can directly benefit from MEV profits, thereby increasing their sources of income and profit levels.

Singleton

Singleton is a new contract architecture in Uniswap V4. In previous versions, each liquidity pool corresponded to a separate contract, and when adding new liquidity pools, a new contract needed to be deployed. This not only increased deployment costs for developers but also required transactions to cross multiple contracts, leading to increased Gas fees and transaction times. In the Singleton architecture, all liquidity pools are stored within a single contract, significantly reducing the cost and Gas fees of creating liquidity pools and improving transaction efficiency.

The advantages of the Singleton architecture include:

• Cost Reduction: Since all liquidity pools are stored in the same contract, developers do not need to deploy separate contracts for each liquidity pool, thereby reducing development and maintenance costs.

• Efficiency Improvement: The Singleton architecture enables multi-hop trading, allowing users to complete all swaps with a single contract call, greatly improving trading efficiency and reducing Gas fees.

• Scalability: The Singleton architecture allows for easy addition of new features and functionalities, leaving more possibilities for future innovations, giving Uniswap V4 higher scalability and flexibility.

• Simplified Liquidity Position Management: In the Singleton architecture, liquidity positions are no longer encapsulated using tokenization but are managed using addresses, making it simpler and more efficient to manage liquidity position data.

Flash Accounting

Flash Accounting, referred to as "flash bookkeeping," is a new accounting method introduced on top of the singleton contract architecture. In previous versions, each transaction required calculating the balances of all related positions, consuming a lot of Gas and leading to high transaction costs. The Flash Accounting system can calculate transaction fees based solely on net balances (i.e., the change in balance), thereby reducing Gas consumption.

Specifically, the Flash Accounting system leverages the advantage of all liquidity pools being managed by a single contract in Uniswap V4. When users trade, the Flash Accounting system queries the current pool's net balance (i.e., the difference between buy and sell amounts) and calculates transaction fees based on the user's net balance in the trade. By only calculating the net balance, the Flash Accounting system avoids calculating the balances of all related positions, thus reducing the Gas required for calculations.

In addition to reducing Gas consumption, the Flash Accounting system can also improve cross-pool routing efficiency and further lower transaction costs across multiple pools. This feature becomes very useful when combined with hook contracts, supporting more complex integrations and innovations, potentially increasing the number of pools significantly.

Native ETH

Native ETH in Uniswap V4 refers to direct trading between Ethereum's native token (ETH) and other tokens during transactions. In previous versions, if one wanted to trade ETH with other tokens, they had to first convert ETH to WETH, a process that required multiple transactions and Gas fees, leading to high transaction costs and low efficiency.

In Uniswap V4, the concept of Native ETH has been introduced, allowing for direct trading between ETH and other tokens without the need to convert to WETH first. This significantly reduces transaction costs and time. Additionally, Native ETH can enhance liquidity, attracting more liquidity providers into the Uniswap V4 ecosystem, providing traders with better liquidity and pricing.

In terms of implementation, Uniswap V4 adds an ETH pool in the core contract, which is solely used for direct trading between ETH and other tokens. When users trade between ETH and other tokens, the system automatically compares the trading volume with the amount of ETH in the pool and calculates the corresponding amount of other tokens based on the ratio. This allows users to trade directly between ETH and other tokens in Uniswap V4 without the cumbersome conversion process. Therefore, the introduction of Native ETH makes Uniswap V4 more convenient and efficient, providing users with a better trading experience and further strengthening Uniswap's liquidity and competitiveness.

Uniswap V4 May Become an Opportunity to Solve DEX Predicaments

In the digital asset trading market, CEX and DEX are two main exchange models. Due to long-standing issues such as insufficient liquidity, poor user experience, and high trading fees and costs, CEX has dominated the digital asset trading market for a long time. With the rapid development of DeFi, the developmental predicaments of DEXs have garnered increasing attention. In this context, the release of Uniswap V4 may become an opportunity to address the challenges faced by DEXs. Through innovative solutions, Uniswap V4 plans to improve the situation of DEXs in four aspects. If successful, it will lead more institutions to join in and collectively promote the thorough resolution of DEX challenges.

Improving Liquidity: Liquidity is one of the core issues for DEXs. Uniswap V4 enhances the customizability and liquidity of DEXs through the introduction of Hook features and internalized MEV profit distribution back to LP. The Hook feature allows anyone to deploy liquidity pools using custom contracts, making Uniswap's liquidity more composable and scalable, while internalized MEV profit distribution back to LP can encourage more LPs to participate in Uniswap liquidity provision, thereby improving liquidity.

Improving User Experience: Uniswap V4 introduces the TWAMM algorithm and limit trading features, enhancing price discovery efficiency and user trading experience. The TWAMM algorithm calculates prices based on time-weighted averages, reflecting more accurate market prices, while the limit trading feature allows users to set upper and lower price limits, better controlling trading risks. These features can enhance user experience and attract more users to participate in DEX trading. Additionally, deploying liquidity pools through Hook custom contracts can meet different user needs, greatly enhancing user experience.

Reducing Trading Fees: Trading fees are one of the most important reference indicators for users when choosing exchanges. Uniswap V4 reduces trading fees through mechanisms such as internalized MEV profit distribution back to LP and Flash Accounting. Internalized MEV profit distribution back to LP can increase LP income, thereby lowering user trading fees, while Flash Accounting can reduce costs for frequent trading, providing users with lower trading costs and higher efficiency.

Improving Cost Efficiency: The Singleton architecture of Uniswap V4 allows all LP contracts to be set as a single contract, which not only reduces Gas fees for creating LPs and multi-hop trades but also greatly enhances the efficiency of contract deployment. Coupled with Flash Accounting to lower costs for frequent trading, Uniswap V4 helps users achieve maximum benefits or value at minimal costs while providing a better foundation for the sustainable development of DEXs.

Conclusion

Uniswap is one of the important pioneers in the DeFi industry, continuously introducing new innovative mechanisms to drive the development of the entire industry. As a culmination of these efforts, the emergence of Uniswap V4 is undoubtedly a significant innovation for the DeFi industry and the entire crypto sector. Uniswap V4 grants users greater freedom, higher liquidity, lower fees, and more comprehensive and convenient services, making it a more competitive trading platform while also promoting the progress and improvement of the entire DEX industry.

Although there is still a significant gap between DEXs and CEXs in terms of user experience, fees, and security, this gap is gradually narrowing with the continuous updates and improvements of Uniswap versions. It is believed that in the near future, Uniswap V4 will occupy a more important position in the competition between DEXs and CEXs, becoming a liquidity growth flywheel in the DeFi industry and leading the development direction of the entire industry.