Constant Product Market Maker (CPMM)

Pact offers a familiar Constant Product Market Maker (CPMM) capability.

Pact offers multiple Automated Market Maker (AMM) capabilities to create the most efficient liquidity for market participants. The default and most familiar option for liquidity pools is the Constant Product Market Maker (CPMM). Under this option, liquidity providers need to supply each token in the pair with an equal or 50:50 value.

How does the Constant Product Market Maker (CPMM) work?

With the Constant Product Market Maker (CPMM) capability, pairs act as automated market makers, ready to accept one token for the other as long as the “constant product” formula is preserved.

This formula is expressed as x * y = k and states that trades must not change the product (k) of a pair’s reserve balances (x and y). Because k remains unchanged from the reference frame of a trade, it is often referred to as the invariant. This formula has the desirable property that larger trades (relative to reserves) execute at exponentially worse rates than smaller ones.

In practice, Pact also applies a fee to the pool, which is added to the reserves. As a result, each trade also increases k. This incentivises and rewards LPs proportionally to their ownership percentage of the pool.

Because the relative price of the two pair assets can only be changed through trading, divergences between the Pact price and external market prices create arbitrage opportunities. This mechanism ensures that Pact prices always trend toward the market price.

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