LD Capital: Order Book Native Chain Pioneer Injective

Author: Yilan, LD Capital

Public Chain Order Book Track Landscape

When mentioning DEX, most people immediately think of AMM, which is very useful and a key original mechanism of DeFi. Although on-chain LOB (on-chain order book) is criticized for lacking an LP ecosystem and regulatory arbitrage behaviors of centralized exchanges, on-chain LOB also plays an indispensable role in the entire DEX track, especially for professional traders and institutions, making it an important sub-track of the DEX space.

Overall, order book exchanges can be understood in four types. The first type is the highly centralized CEX, which has excellent trading speed and throughput, and is the trading choice for most people in the market, such as Binance / OKX. The second type is the Ethereum L1 on-chain order book, such as Gridex, which achieves a high degree of decentralization. However, due to transactions being executed directly on-chain, performance is limited and users need to pay higher gas fees. The third type is high-performance off-chain order books based on Rollup, which reduce gas fees through off-chain matching and ensure security through batch processing on-chain, such as dYdX v3, Vertex, Zigzag, etc. Recently, ETH L2 Base has called for on-chain order book DEX to become part of its ecological fund for deployment within its ecosystem, and the development of various L2s will provide a good growth environment for on-chain order books. The fourth type is high-performance DeFi native chains/custom chains that meet high-performance order requirements, such as Injective and the yet-to-be-launched Sei, dYdX V4, etc.

Among the fourth type of DeFi order book native chains, besides typical projects including Injective, the testing network dYdX V4, SEI, there are also Osmosis, Kujira, and Crescent. Currently, the most developed are DYdX and Injective, benefiting from the Ignite consensus framework (formerly Tendermint, a proprietary Byzantine Fault Tolerance BFT PoS infrastructure), IBC, and customizable SDK. Almost all order book native chains are built on the Cosmos ecosystem, but Injective is the pioneer of building on-chain order books on Cosmos.

This article mainly introduces Injective among DeFi order book native chains, exploring whether Injective has a fundamental advantage in terms of the core advantages and moats of public chain order book DEX and its competitors.

Injective is an L1 blockchain optimized for DeFi with interoperability. In fact, before announcing the integration with Cosmos, Injective was seen as an Ethereum L2/sidechain, but after having a consensus layer and sovereignty on Cosmos, Injective has become a plug-and-play financial infrastructure, covering high-performance on-chain decentralized exchange infrastructure, decentralized bridges, oracles, and a composable smart contract layer with CosmWasm. Other protocols within the ecosystem can leverage Injective's on-chain order book to launch liquidity and matching services, adding a layer of composability.

The construction of Cosmos Tendermint/Ignite, SDK, and IBC technology components helps Injective utilize the network's high finality and low transaction costs to support its order book functionality, further improving capital efficiency and liquidity segmentation while maintaining interoperability with Ethereum. It uses an FBA (Frequent Batch Auction) order matching engine, which aggregates each order at the end of the block and executes all market orders at the same price to help prevent front-running trades. This OME (Order Matching Engine) method allows Injective to have a moat of decentralization, high trading speed, high finality, and MEV protection compared to traditional financial order books and other AMMs.

Injective Construction

Injective Chain is a core component of Injective, built using the Cosmos Tendermint/Ignite standard, inheriting decentralization, security, and high performance.

The above image shows the entire Injective Stack composition.

Service Domain

The service layer acts as a bridge connecting exchange DApps (such as Helix) with the underlying blockchain layer. It consists of multiple APIs, including exchange API, coordinator API, derivatives API, and The Graph API. These APIs play a key role in ensuring seamless communication between different components within the Injective ecosystem, helping users trade and access various DeFi services. The APIs within the service layer enable Helix to interact with Tendermint/Ignite-based Cosmos chains and the Ethereum blockchain. This modular API design approach provides greater flexibility and scalability, ensuring Injective can continue to grow and evolve to meet the ever-changing demands of the DeFi space.

Cosmos Layer

The Cosmos layer is the foundation of the Injective chain, built on Tendermint/Ignite, responsible for executing various transaction and derivatives order types. This layer includes the Injective API and Injective EVM remote procedure call (RPC), enabling connections to the Injective chain and Injective Explorer. The EVM (Ethereum Virtual Machine) is a decentralized, Turing-complete virtual machine for executing smart contracts on the Ethereum blockchain. The Injective Explorer is a tool for tracking all transactions on the Injective chain, providing users with valuable insights into platform activity and performance. The instant finality property of Tendermint makes it an ideal choice for supporting the Injective chain, as it allows for rapid transaction execution and settlement. The Cosmos layer also offers a range of security and performance advantages, including the Tendermint/Ignite consensus mechanism, horizontal scalability, and a powerful application framework for building custom blockchain applications.

Importance of Consensus Mechanism

The choice of Tendermint/Ignite as the consensus mechanism for the Injective chain is due to its ability to provide near-instant finality, high fault tolerance, and support for horizontal scalability. In the context of a trading platform, near-instant finality is particularly important as it ensures transactions can be executed quickly and efficiently without the risk of rollbacks or double spending. This allows Injective to maintain a high level of performance even as trading activity on the platform increases. The PoS consensus algorithm of Tendermint also provides high fault tolerance, ensuring the Injective chain continues to operate correctly in the presence of malicious or faulty nodes.

The specific implementation involves the Tendermint/Ignite protocol utilizing multiple rounds to propagate blocks to network validators through proposal messages. For a block to be propagated, it must be supported by multiple block proposers and signed by the corresponding validators' private keys. Validators communicate on Tendermint/Ignite through a peer-to-peer (P2P) gossip protocol. For a block to be considered valid, it must be accepted by more than two-thirds of the validators, which is also known as Byzantine Fault Tolerance (BFT) Proof of Stake (PoS) consensus mechanism.

Ethereum Domain

The bridging layer is crucial for cross-chain interoperability and communication between Injective and the Ethereum network. It consists of the Injective Bridge smart contract, which relies on Wormhole, Peggy, IBC, and Axelar. The bridging layer interacts with the Injective chain, Ethereum network, and other supported blockchains. The Injective Bridge enables bi-directional transfer of ERC-20 tokens and assets between the Injective and Ethereum blockchains through Peggy. This cross-chain interoperability enabled by Wormhole, Axelar, and IBC is vital for decentralized blockchain infrastructure, as it allows different networks to seamlessly share data and assets. Through the Injective Bridge, Injective and the entire Cosmos ecosystem can inherit part of the vast liquidity on Ethereum and its DApps ecosystem.

Project Background

Injective was incubated by Binance and is one of the eight projects in the first incubation phase of Binance Labs, receiving support from numerous investment institutions. Binance has been significantly impacted by the SEC crackdown, but the impact on the decentralized exchange Injective is limited.

Eric Chen, co-founder and CEO of Injective Protocol, graduated from New York University’s Computer Science School. The core team has a strong professional background, with work experience in internationally renowned companies such as Open Zeppelin, Amazon, and hedge funds. Core team members graduated from prestigious institutions like Stanford University.

On July 29, 2020, Injective raised $2.6 million in a seed round led by Pantera Capital, with participation from QCP Soteria and Axia 8 Ventures.

On April 20, 2021, Injective raised $10 million in a "party" financing round, with participation from Pantera Capital, Mark Cuban, and Hashed.

On August 10, 2022, Injective raised $40 million in a financing round, with participants including Jump Crypto and BH Digital.

In January of this year, Injective announced the establishment of a $150 million ecological fund to promote ecosystem development. Currently, there are over 20 projects in the Injective ecosystem, including Astroport, Celer Network, and Helix. In April, Injective announced a partnership with Tencent Cloud to support developers on Injective.

Tokenomics

The total supply of INJ is 100 million, and block rewards are compensated by minting new tokens, leading to inflationary pressure. The target inflation rate for the INJ token starts at 7% and gradually decreases to 2% over time. However, 60% of the transaction fees are used to buy back and burn INJ, putting it in a deflationary state. More than 90% of the tokens have been released, with about 5% released recently (June to August), most of which come from Team, Advisors, Ecosystem Development, and Community Growth. The portion belonging to Team and Advisors may become potential selling pressure, while the others will convert into APY within Injective, which will also have some selling pressure but higher incentives will increase Injective's ecosystem data.

INJ is deflationary, with 60% of the fees generated by dAPP going towards on-chain buybacks and burns of INJ (60% of trading fees are auctioned to Bidders, who bid with INJ, and the INJ obtained from the auction will be burned). Weekly supply destruction will create a deflationary effect and offset the supply increase caused by token minting to some extent. More precisely, the inflation rate of 39.78 million staked INJ is 5%, equivalent to minting 2 million INJ within a year, with a cumulative burn of 5.32 million INJ, accounting for 5.32% of the total supply.

Figure: INJ Burn

Figure: INJ Stake Situation

Value Capture

1) Protocol Fee Value Capture

40% of the trading fees are allocated to exchange DApps, while Injective uses the remaining 60% for buybacks. The protocol conducts an auction weekly, where participants bid for that week's fees using INJ. The auction winners receive a basket of tokens and profits from arbitrage opportunities, while the protocol uses the revenue to buy and burn INJ to maintain the deflationary nature of the INJ token.

2) Tendermint-based Proof of Stake (PoS) Security

INJ tokens are used to secure the Injective blockchain through a proof of stake mechanism. Both validating nodes and delegators can participate in staking.

3) Developer Incentives

40% of the fees generated by dApp users built on Injective are directly used to incentivize new developers to build applications on Injective, leading to a growing developer community.

4) Protocol Governance

The INJ token is responsible for managing every component of Injective, including chain upgrades.

Token Allocation

Token sales data

Source: Binance Research

Ecosystem Projects

Currently, there are 24 DApps that have launched on the Injective mainnet, most of which are DeFi-related, along with applications related to communication infrastructure, information protocols, NFTs, etc., built on Injective.

Major DApps on Injective

Source: Injective Official

Helix

Helix is the front-end for Injective order book trading, initially known as Injective Pro. Its goal is to provide cross-chain spot and perpetual contract markets, allowing users to trade various cryptocurrencies. Helix supports zero gas fees, helping to reduce users' trading costs.

Mito

After a long wait, Injective Labs officially announced Mito last month, formerly known as "Project X," and launched closed testing access for the platform. Mito consists of a protocol driven by smart contracts that automate trading vaults, with each vault executing advanced trading algorithms typically held only by institutions and hedge funds, currently in the early access stage. Mito includes two key components: an automated strategy vault for easy yield generation and a complex token launch platform. Through this innovative platform, users can access various trading strategies to generate yield while exploring new tokens in the cryptocurrency space.

Astroport

Astroport is an AMM protocol that allows any user to exchange or provide liquidity (LP) for crypto assets using various types of pools, including Curve-style stablecoin exchange pools and Uniswap V2-style constant product pools. Astroport can leverage Injective's interoperable network to exchange assets bridged from Cosmos or Ethereum, as well as from chains like Solana, Aptos, and Avalanche through Injective's Wormhole integration.

Since Astroport is built on Injective, users will be able to utilize Injective's interoperable network to exchange assets bridged from Cosmos or Ethereum, as well as from Solana, which was recently integrated via Wormhole. Users can bridge assets to Injective through the Injective Bridge, then create liquidity pools on Astroport, starting to earn yield as liquidity providers and trade new markets.

Astroport brings significant advantages to the Injective ecosystem. Originally built on Terra, Astroport's contributors spent considerable time analyzing multiple major L1 networks and ultimately decided to use Injective as the hosting chain for its V2 version. Astroport has now officially migrated its mainnet to Injective, becoming one of the largest AMMs in the Injective ecosystem.

Source: @astroport_fi

As of the end of June, Astroport's total TVL is 32.94 million, with TVL on Neutron, Terra, and Injective being 21.99 million, 6.42 million, and 4.52 million, respectively.

Competitive Landscape

SEI is a protocol that is comparable to Injective in terms of consensus mechanism, OME type (FBA), FDV, etc. SEI has detailed differences in the OME mechanism compared to Injective, which will be elaborated on later.

DYDX is about to migrate from Ethereum to Cosmos to launch the dYdX chain (dYdX V4), which is currently in the testing phase. The mainnet launch of dYdX V4 may have a certain crowding-out effect on Injective's market share, with the specific impact depending on the trading incentives and institutional preferences of both. From the token release phase, Injective tokens have been released 90%, while dydx, including the yet-to-launch SEI, may have an advantage in token incentive space.

In terms of valuation, SEI's last round valued it at $800 million, completing a $30 million financing round with participation from Jump Capital, Distributed Global, and others. Injective is currently valued at less than $800 million, while dYdX is at $1.9 billion. Injective's valuation still has room for growth, but in terms of key business data like trading volume, Injective is significantly behind other competitors (Helix 24 hrs trading volume is 22 million, dydx is 600 million), and the gap in trading volume with dydx is very large, which is related to Injective's trading pairs mainly being assets within the Cosmos ecosystem.

Compared to other blockchains on the Cosmos network, Injective is currently the fastest, with an average block time of about 1 second. The chart shows that Injective's block generation speed is significantly higher than that of other chains.

Source: https://hub.mintscan.io/chains/monitor

Order Matching Engine (OME) Comparison

Source: OME Comparison by 3 V Labs

The above image is a comparison of the order matching mechanisms of SEI, Injective, dYdX V4, Serum, and Uni V3 by @3 V Labs.

Order books resist MEV, which is in demand for handling large-scale institutional order flows. Currently, most public chain order book DEXs minimize adverse MEV through frequent batch auctions (FBA). In addition to FBA, Off-Chain low-latency OME is the order matching mode of dYdX V4.

For Injective, the FBA matching mechanism is an important upgrade that adopts a frequent batch auction model. The result is to maintain fast trading times, approach market prices through higher liquidity, and narrow spreads.

So what is FBA? To understand FBA, one must first understand the concept of Continuous Double Auction (CDA), as FBA effectively addresses the capital inefficiency of CDA.

Problems with Continuous Double Auction (CDA)

Centralized exchanges in crypto derivatives and traditional financial markets use a Continuous Double Auction (CDA) model. In this model, orders are processed as soon as they arrive at the exchange. This can be achieved by either executing orders immediately on the opposite orders in the order book or holding them on the order book until a matching order is found.

The way CDA processes orders incentivizes speed, while highly volatile markets create significant arbitrage opportunities. Market makers (MMs) play the role of following the market price of assets and providing depth by placing orders on both sides of the order book. As prices change, MMs must cancel and create orders accordingly.

However, during the time intervals between external signal price updates, high-frequency traders (HFTs) have the opportunity to execute outdated MM orders before MMs cancel them. As a result, HFTs can capture arbitrage profits. The profits from this outdated order sniping game are substantial and persistent, leading HFTs to invest in advanced technologies such as microwave towers and FPGAs to compete at nanosecond (billionth of a second) speeds, putting MMs at an insurmountable disadvantage.

Due to these apparent problems, MMs are often forced to increase their investments in competitive technological solutions, which are often indirectly paid for by traders through higher trading fees. Additionally, MMs often become more risk-averse due to providing significant depth near market prices. This not only harms retail traders who want to execute orders at fair prices but also creates high volatility within spreads, undermining market stability on small time scales. Consequently, retail traders are often forced to establish positions at suboptimal prices.

The matching engine of continuous double auctions needs to process high throughput at unpredictable times, while demand is minimal most of the time. Even exchanges based on continuous double auctions built by centralized entities rarely meet the market demand for 100% uptime. Within the scope of blockchain networks, the situation worsens. Therefore, decentralized exchanges have much less flexibility in addressing the same challenges compared to today's most modular centralized exchanges.

In the design of continuous double auctions in decentralized exchanges, minor changes have proven unsatisfactory, ultimately causing economic losses for retail traders. For example, prioritizing orders that pay higher gas fees over those with reasonable gas fees instead of following the submission time.

Any user who has engaged in relatively aggressive trading on a specific AMM exchange protocol has experienced the pain of being profited by bots that paid high gas fees at the margin of traders' slippage tolerance. AMMs aim to eliminate the need for institutional MMs, while the capital inefficiency costs associated with CDA are directly passed on to retail traders.

Now let's look at the advantages of FBA and Injective's FBA

Injective's Frequent Batch Auction (FBA) is widely proposed as a clear solution to the capital inefficiency issues associated with CDA. One benefit of FBA is that it enhances market fairness and liquidity by eliminating front-running.

Injective FBA is defined by three characteristics:

1) Discrete Time: Orders are accepted during discrete time intervals known as auction intervals. At the end of each auction interval, crossing orders are filled in the following priority:

First, market orders are filled, then limit orders that were not filled in the previous auction interval, and finally limit orders from the latest auction interval. If the number of buyers and sellers differs, the smaller side is fully filled, while the larger side's orders are filled proportionally (uniform partial filling).

2) Unified Clearing Price: Limit orders are filled at a unified clearing price based on the highest number of crossing orders. If the number of buyers and sellers is the same, the mid-price is used as the clearing price.

3) Closed Bidding: Orders are not made public on the order book until the auction interval ends and the batch auction is executed. This eliminates the possibility of front-running and negative spreads.

The longer auction intervals in Frequent Batch Auctions provide market makers with sufficient time to cancel outdated orders before HFTs can execute them. This eliminates the risk of market makers having to deal with front-running issues, so they do not need to invest capital in advanced technologies.

Market makers are incentivized to provide deeper liquidity and tighter spreads near market prices, which is not only better for retail traders trying to fill orders at close to fair prices but also reduces volatility associated with potential price crashes.

Frequent Batch Auctions aggregate orders into a set of auction intervals for state changes or inclusion in the order book. The blockchain queues and writes transactions in a batch manner to continuously generated blocks. The optimal batch interval for FBA is still a matter of debate, but academic reports have indicated it to be between 0.2 to 0.9 seconds, which aligns with Injective's auction interval, executing batch auctions at the end of each block.

SEI, as a protocol using FBA for order matching on Cosmos, has some detailed differences compared to Injective's FBA, such as:

1) SEI implements block parallel processing, no longer processing transactions sequentially. It can handle multiple transactions involving different markets simultaneously, improving performance. Recent load tests have shown a 75-90% reduction in block time compared to sequential processing, with parallel processing latency at 40-120 milliseconds, while sequential processing latency ranges from 200-1370 milliseconds.

2) SEI's price oracle is responsible for streaming off-chain price data to the blockchain and is built into the chain. This means that all validators must propose their prices (exchange rates) when submitting blocks. A block will only be created when all validators agree on a common price. Validators who miss certain voting windows or provide prices that deviate too much from the median will be penalized.

3) Transaction orders are bundled, allowing market makers to cancel and create orders involving multiple markets in a single transaction (i.e., bundling all BTC perpetual contract orders into a specific market's smart contract call).

Injective is built on the BFT-based PoS consensus of Tendermint/Ignite, which features instant finality, aligning perfectly with the FBA execution at the end of each interval. Since FBA has no concept of time priority within auction intervals, it is a perfect match for market designs operating on the same foundation. This is because Tendermint/Ignite is a consensus engine based on BFT (Byzantine Fault Tolerance) consensus algorithms. It uses a pre-selected set of validator nodes to reach consensus and votes to confirm the order of transactions through consensus rounds. The design goal of Tendermint/Ignite is high security and determinism, suitable for applications requiring strong consistency and finality, which perfectly fits Injective's infrastructure.

By replacing Continuous Double Auctions (CDA) with Frequent Batch Auctions (FBA), Injective adopts a technically robust market design that can compete with centralized exchanges. Injective can eliminate front-running that harms traders' interests, helping market makers provide deeper liquidity and tighter spreads. The implementation of Frequent Batch Auctions prepares Injective to compete for trading volume with institutional-grade centralized exchanges.

Conclusion

Injective boasts advantages such as optimal trading speed, instant finality, nearly zero gas fees, and MEV protection, stemming from 1) the fast block confirmation speed based on the Tendermint BFT consensus mechanism (though with relatively higher centralization); 2) all fees related to interactions with the chain are paid by the exchange's DApp rather than the traders themselves, meaning traders do not have to pay any gas fees; 3) using Frequent Batch Auctions (FBA) as the order clearing mechanism. Orders submitted to the memory pool are executed at the end of each block (with a block time of about 1 second) and will not be published on the order book until the auction process is completed, effectively preventing MEV bots from front-running trades.

The built-in settings of Injective's on-chain order book are more user-friendly for ordinary users, especially for institutional strategy orders, compared to AMMs (for example, AMMs currently cannot implement stop-loss orders, while Uni V4 may achieve this to some extent). AMMs have a large TVL, and LPs have become an organic part of the entire market, while LOB naturally lacks the step of on-chain staked assets, making it more challenging to form an LP ecosystem similar to AMMs without external subsidies. Of course, AMM-like products can also be built on Injective, but currently, the majority of Injective's trading volume still occurs on the order book front end, Helix.

Before Rollup significantly improves LOB DEX performance, building native chains on Cosmos remains the best solution for high-performance LOBs. The mainnet launch of dYdX V4 may have a certain crowding-out effect on Injective's market share, depending on the trading incentives and institutional preferences of both. LOB DEXs on Rollups will also form some competition, but due to the non-public chain definition of dApps and lack of sovereignty, the valuation system and order book native chains are entirely different. Both LOB DEXs and AMMs adopt decentralized methods, and at this stage, there is no need to define what the final form will be; this market always requires diversified solutions.

Injective uses LOB as its core trading model, featuring "MEV protection," providing a highly decentralized, high-performance, and reliable environment built on Tendermint, suitable for trading cross-chain derivatives, foreign exchange (FX), synthetic assets, and futures, offering a secure and efficient platform for institutional order flows and market makers in trading applications, while eliminating the risks of market manipulation and exploitation by high-frequency traders. The implementation of Frequent Batch Auctions prepares Injective to compete for trading volume with institutional-grade centralized exchanges, making Injective a decentralized trading platform naturally favored by institutions. However, this also means that Injective's price is closely related to the support of institutional funds. In the next cycle, the realization of trading engines based on high-performance chains and one-click chain issuance will further promote professional market makers to establish liquidity in the DEX space, helping to gradually shift pricing power from CEX to DEX alongside AMMs.