An excellent DEX won't let retail investors become the direct source of liquidity for institutional investors
TechFlow Selected TechFlow Selected
An excellent DEX won't let retail investors become the direct source of liquidity for institutional investors
When institutions need to sell off large volumes, retail investors often passively absorb assets at falling prices—a asymmetry that is further amplified in the cryptocurrency space.
Navigating Web3 tides with focused insightsAuthor: Max.S
Introduction: The Underlying Logic of Liquidity Games
In financial markets, retail investors are often seen as the "bag holders" for institutional investors exiting liquidity—when institutions need to offload large positions, retail investors passively absorb falling asset prices. This asymmetry is further amplified in the cryptocurrency space, where centralized exchange (CEX) market-making mechanisms and dark pool trading widen information gaps. However, with the evolution of decentralized exchanges (DEXs), new orderbook-based DEXs such as dYdX and Antarctic are reshaping the distribution of liquidity power through innovative mechanisms. This article analyzes how leading DEXs achieve physical separation between retail and institutional liquidity by examining their technical architecture, incentive structures, and governance models.
Liquidity Stratification: From Passive Absorption to Power Restructuring
The Liquidity Dilemma in Traditional DEXs
In early AMM (Automated Market Maker) models, retail liquidity provision (LP) faces significant adverse selection risk. Take Uniswap V3 as an example: despite its concentrated liquidity design improving capital efficiency, data shows that the average retail LP position is only $29,000, primarily concentrated in small pools with daily trading volumes below $100,000. In contrast, professional institutions dominate high-volume pools with an average holding of $3.7 million, accounting for 70–80% of pools with daily volumes exceeding $10 million. Under this structure, when institutions execute large sell-offs, retail liquidity pools become the first buffer against price drops, creating a classic "exit liquidity trap."
The Necessity of Liquidity Stratification
Research from the Bank for International Settlements (BIS) reveals that DEX markets have developed clear professional stratification: although retail users account for 93% of liquidity providers, 65–85% of actual liquidity comes from a small number of institutions. This stratification is not accidental but an inevitable outcome of market efficiency optimization. Leading DEXs must use mechanism design to isolate retail "long-tail liquidity" from institutional "core liquidity." For instance, dYdX Unlimited's MegaVault mechanism algorithmically allocates USDC deposited by retail users into sub-pools dominated by institutions, preserving liquidity depth while shielding retail providers from direct exposure to large transaction shocks.
Technical Mechanisms: Building a Liquidity Firewall
Innovation in Orderbook Models
Orderbook-based DEXs can build multi-layered liquidity protection mechanisms through technological innovation, with the core goal of physically isolating retail liquidity needs from institutional large-scale trading activities, preventing retail users from becoming passive victims of market volatility. A well-designed liquidity firewall must balance efficiency, transparency, and risk isolation. It relies on a hybrid on-chain/off-chain architecture that safeguards user asset autonomy while defending against market fluctuations and malicious operations targeting liquidity pools.
The hybrid model processes high-frequency operations like order matching off-chain, leveraging low latency and high throughput of off-chain servers to significantly improve trade execution speed and avoid slippage caused by blockchain congestion. Meanwhile, on-chain settlement ensures self-custody security and transparency. For example, DEXs like dYdX v3, Aevo, and Antarctic match trades via off-chain orderbooks while settling final transactions on-chain, preserving core decentralization benefits while achieving CEX-level trading efficiency.
Additionally, the privacy of off-chain orderbooks reduces premature exposure of trading information, effectively curbing MEV behaviors such as front-running and sandwich attacks. Projects like Paradex reduce market manipulation risks associated with transparent on-chain orderbooks through hybrid models. The hybrid approach allows integration of professional algorithms from traditional market makers, enabling tighter bid-ask spreads and deeper liquidity through flexible management of off-chain liquidity pools. Perpetual Protocol uses a virtual AMM (vAMM) model combined with off-chain liquidity replenishment to mitigate the high slippage issues inherent in purely on-chain AMMs.
Off-chain processing of complex computations—such as dynamic funding rate adjustments and high-frequency trade matching—reduces on-chain gas consumption, with only critical settlement steps handled on-chain. Uniswap V4’s singleton contract architecture consolidates multi-pool operations into a single contract, reducing gas costs by up to 99%, providing a technical foundation for the scalability of hybrid models. The hybrid model also supports deep integration with DeFi components such as oracles and lending protocols. GMX leverages Chainlink oracles for off-chain pricing data and combines it with on-chain liquidation mechanisms to enable advanced derivative trading functionalities.
Designing Market-Driven Liquidity Firewall Strategies
A liquidity firewall aims to maintain stability in liquidity pools using technical means, preventing systemic risks arising from malicious operations or market volatility. Common approaches include introducing time locks during LP withdrawals (e.g., 24-hour delays, extendable up to 7 days) to prevent sudden liquidity drain due to frequent withdrawals. During periods of extreme market volatility, time locks help cushion panic-driven withdrawals, protecting long-term LP returns, while smart contracts transparently record lock-up periods to ensure fairness.
Using oracles to monitor asset ratios within liquidity pools in real-time, exchanges can set dynamic thresholds to trigger risk control mechanisms. When the proportion of any asset exceeds a preset limit, relevant trading may be paused or rebalancing algorithms automatically invoked to prevent impermanent loss from expanding. Tiered reward systems based on LP lock-up duration and contribution level can also be implemented. LPs who lock assets long-term receive higher fee shares or governance token incentives, encouraging stability. Uniswap V4’s Hooks feature allows developers to customize LP incentive rules (e.g., automatic fee compounding), enhancing stickiness.
Real-time monitoring systems deployed off-chain can detect abnormal trading patterns (e.g., large arbitrage attacks) and trigger on-chain circuit breakers. Specific trading pairs can be suspended or large orders restricted, mirroring traditional finance’s “circuit breaker” mechanism. Formal verification and third-party audits ensure the security of liquidity pool contracts, while modular designs support emergency upgrades. Proxy contract patterns allow vulnerability fixes without migrating liquidity, avoiding a repeat of incidents like The DAO hack.
Case Studies
dYdX v4—Fully Decentralized Implementation of the Orderbook Model
dYdX v4 maintains its orderbook off-chain, forming a hybrid architecture of off-chain order matching and on-chain settlement. A decentralized network of 60 validator nodes matches trades in real time, with final settlement occurring only after execution via an application-specific chain built on Cosmos SDK. This design isolates the impact of high-frequency trading on retail liquidity to the off-chain layer, with only results processed on-chain, shielding retail LPs from price volatility triggered by large-scale order cancellations. Its gasless trading model charges fees proportionally only upon successful trades, sparing retail users from high gas costs due to frequent order cancellations and reducing the risk of being passive "exit liquidity."
Retail users staking DYDX tokens earn a 15% APR in USDC (from fee sharing), while institutions must stake tokens to become validators responsible for maintaining the off-chain orderbook and earning higher rewards. This tiered design separates retail income from institutional node functions, minimizing conflicts of interest. Permissionless listing and liquidity isolation allow algorithms to distribute USDC provided by retail users across different sub-pools, preventing single pools from being penetrated by large trades. Token holders govern parameters such as fee distribution ratios and new trading pair listings via on-chain voting, preventing institutions from unilaterally changing rules to harm retail interests.
Ethena—The Liquidity Moat of a Stablecoin
When users collateralize ETH to mint the delta-neutral stablecoin USDe, the Ethena protocol automatically opens an equivalent short position in ETH perpetual contracts on CEXs to hedge risk. Retail holders of USDe are exposed only to ETH staking yields and funding rate spreads, avoiding direct exposure to spot price volatility. When USDe deviates from its $1 peg, arbitrageurs must redeem collateral through on-chain contracts, triggering dynamic adjustments that prevent institutions from manipulating prices via concentrated dumping.
Retail users stake USDe to receive sUSDe (yield-bearing tokens), earning returns from ETH staking rewards and funding rates; institutions earn additional incentives by providing on-chain liquidity as market makers. These two roles have physically separated revenue sources. Reward tokens injected into USDe pools on DEXs like Curve ensure retail users can swap at low slippage, avoiding forced absorption of institutional sell pressure due to insufficient liquidity. Future plans include using governance token ETA to control USDe collateral types and hedging ratios, allowing community votes to restrict excessive leverage by institutions.
ApeX Protocol—Elastic Market Making and Protocol-Controlled Value
ApeX Protocol migrated from StarkEx to zkLink X, building an efficient orderbook-based derivatives trading model with off-chain matching and on-chain settlement. User assets are self-custodied, stored entirely in on-chain smart contracts, ensuring the platform cannot misappropriate funds. Even if the platform ceases operation, users can force withdraw to safeguard their assets. ApeX Omni supports seamless cross-chain deposits and withdrawals, features a no-KYC design allowing access via wallet or social login, and eliminates gas fees to drastically reduce trading costs. Additionally, ApeX’s spot trading innovatively enables one-click buying and selling of multi-chain assets using USDT, eliminating the complexity and extra fees of cross-chain bridges—ideal for efficient trading of multi-chain meme coins.
ApeX’s core competitiveness stems from the breakthrough design of its underlying infrastructure, zkLink X. Leveraging zero-knowledge proofs (ZKP) and aggregated Rollup architecture, zkLink X solves longstanding DEX challenges including fragmented liquidity, high transaction costs, and cross-chain complexity. Its multi-chain liquidity aggregation unifies assets scattered across L1/L2 networks like Ethereum and Arbitrum into deep liquidity pools, enabling users to access optimal prices without cross-chain bridging. Meanwhile, zk-Rollup technology batches transactions off-chain, with recursive proofs optimizing verification efficiency, allowing ApeX Omni to achieve CEX-level throughput at a fraction of the cost of comparable platforms. Compared to single-chain optimized DEXs like Hyperliquid, ApeX delivers a more flexible and accessible trading experience through superior cross-chain interoperability and unified asset listing.
Antarctic Exchange—Privacy and Efficiency Revolution Based on ZK Rollup
Antarctic Exchange leverages Zero Knowledge technology to deeply integrate the privacy properties of zk-SNARKs with orderbook liquidity depth. Users can anonymously verify trade validity (e.g., sufficient margin) without revealing position details, effectively preventing MEV attacks and information leaks, successfully resolving the industry-wide dilemma of choosing between transparency and privacy. By hashing hundreds or thousands of transactions into a single root hash via Merkle Tree and posting it on-chain, Antarctic greatly compresses on-chain storage and gas costs. The coupling of Merkle Trees with on-chain verification delivers a "no-compromise solution" combining CEX-like user experience with DEX-grade security for retail users.
In LP pool design, Antarctic employs a hybrid LP model, seamlessly connecting user stablecoins with LP tokens (AMLP/AHLP) through smart contracts, balancing the advantages of on-chain transparency and off-chain efficiency. A withdrawal delay is introduced when users exit liquidity pools, preventing instability in market liquidity supply caused by frequent entries and exits. This mechanism reduces slippage risk, enhances pool stability, and protects long-term LPs from profiteering by market manipulators and opportunistic traders.
In traditional CEXs, large clients exiting liquidity rely heavily on the collective liquidity of all orderbook users, easily causing cascading sell-offs. But Antarctic’s hedged market-making mechanism effectively balances liquidity supply, allowing institutional exits without over-reliance on retail funds, so retail users don’t bear excessive risk. This makes it ideal for professional traders who prefer high leverage, low slippage, and resistance to market manipulation.
Future Directions: The Possibility of Liquidity Democratization
Future DEX liquidity designs may evolve along two distinct paths: Universal Liquidity Networks: cross-chain interoperability breaks down silos, maximizing capital efficiency, allowing retail users to enjoy optimal trading experiences through "seamless cross-chain" access; Cogoverned Ecosystems: through innovative mechanism design, DAO governance shifts from "capital dominance" to "contribution-based rights," enabling dynamic equilibrium between retail and institutional players in the game.
Cross-Chain Liquidity Aggregation: From Fragmentation to Universal Liquidity Networks
This path builds foundational infrastructure using cross-chain communication protocols (e.g., IBC, LayerZero, Wormhole) to enable real-time data synchronization and asset transfers across chains, eliminating reliance on centralized bridges. Zero-knowledge proofs (ZKP) or light client verification ensure the security and immediacy of cross-chain transactions.
Combined with AI prediction models and on-chain data analytics, smart routing will automatically select the optimal liquidity pool across chains. For example, when ETH selling pressure on Ethereum mainnet increases slippage, the system can instantly draw liquidity from low-slippage pools on Polygon or Solana and execute atomic cross-chain hedges, reducing impact costs on retail pools.
Alternatively, unified liquidity layer designs may develop cross-chain aggregation protocols (e.g., Thorchain model), allowing single-point access to multi-chain liquidity pools. Pools adopt a "liquidity-as-a-service" (LaaS) model, allocating funds on-demand across chains, with arbitrage bots automatically balancing inter-chain price differences to maximize capital efficiency. Cross-chain insurance pools and dynamic fee models could adjust premiums based on each chain’s liquidity usage frequency and security level.
Balancing DAO Governance: From Whale Dominance to Multilateral Checks
Different from the above path, DAO governance dynamically adjusts voting weights. Voting power of governance tokens increases with holding duration (e.g., veToken model), incentivizing long-term community participation and deterring short-term manipulation. Weights are dynamically adjusted based on on-chain behavior (e.g., LP duration, trading volume) to prevent power concentration from large token hoards.
Building on existing dual-track systems, key decisions involving liquidity allocation require both "majority total votes" and "majority retail addresses" to pass, preventing unilateral whale control. Retail users can delegate voting rights to reputation-verified "governance nodes," which must stake tokens and undergo transparent audits—misuse results in slashing of staked funds. Additional rewards go to LPs participating in governance, but if their voting behavior deviates from community consensus, rewards are proportionally reduced.
NFTs as mediums for transferring labor and trading relationships can play a crucial role in DAO governance. For example, affiliate rebate relationships common to all exchanges can be directly bound to NFTs; when an NFT is traded, the rebate relationship and associated client resources transfer together, and the NFT’s value can be quantified by resource volume. Some DEXs have already piloted this, using OpenSea trading to rapidly circulate NFTs into the hands of users genuinely promoting the DEX. Over 90% of the entire operations team’s performance now comes from NFT rebates. The anonymity of NFTs also helps DAOs better manage BD teams, preventing user attrition when a BD member departs.
Conclusion: A Paradigm Shift in Liquidity Power
Top-tier DEXs fundamentally restructure the distribution of financial power through technical architecture. The practices of dYdX, Antarctic, and others show that when liquidity provision evolves from "passive absorption" to "active management," and trade matching advances from "price priority" to "risk isolation," retail users cease to be sacrificial pawns in institutional exits and instead become equal participants in ecosystem building. This transformation is not merely about technical efficiency—it embodies the core spirit of DeFi: restoring finance to its service-oriented essence, rather than leaving it as a zero-sum battlefield.
Join TechFlow official community to stay tuned
Telegram:https://t.me/TechFlowDaily
X (Twitter):https://x.com/TechFlowPost
X (Twitter) EN:https://x.com/BlockFlow_News
