Author: @agintender
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Tokens borrowed by capability, why should they obediently help you? What happens behind the scenes after the project team hands over tokens to market makers? This article will reveal the core logic of algorithmic market making and analyze how market makers use your Token to obtain trading depth, price stability, and market confidence.
Conclusion first: Due to the current lack of liquidity in altcoins, in the call option mode, the optimal solution for market makers is to sell the tokens received from the project team immediately after opening. Then you might ask, if tokens are sold at the beginning, what if the token price rises back in the future, won't market makers need to buy back at a high price?
Reasons:
1. Market makers' strategy is delta neutral, without taking positions - they want stable profits without losses
2. The call option actually limits the highest price, restricting the market makers' maximum risk exposure (even if you surge 100 times, I can buy at 2x the price)
3. Such market maker contracts are typically 12-24 months long. Given the current market with many projects peaking upon launch, how many can survive a year?
4. Even if surviving 1-2 years, if the coin price skyrockets, the gains from price volatility would be enough to cover the losses from early "selling off"
Introduction
The market has been good recently, and several friends around me want to launch their TGE soon. They're currently stuck on choosing "market makers". They're all bringing market makers' terms to ask me, what do you think about these conditions? What pitfalls are there? What will market makers do with our tokens? Will they really provide liquidity?
Especially after seeing the Movement report: https://cn.cointelegraph.com/news/movement-network-binance-38-million-buyback Disclaimer: The plot is purely fictional, any resemblance is coincidental. Pedant's disclaimer: If you think I'm wrong, then you're right. Entertainment disclaimer: This article is written with the greatest "malice", not targeting anyone, just enjoy it roughly.
I. Market Background
Generally, there are three common cooperation models for market makers nowadays:
Market-making bot rental - The project provides funds (token + stablecoin), market makers provide "technical" and "personnel" support, receiving a retainer fee and/or profit sharing (if applicable).
Active market making - The project provides tokens (sometimes a bit of stablecoin), market makers provide funds (sometimes no stablecoin) for market making and community guidance, mainly to sell tokens, with project and market makers sharing profits proportionally after selling.
Call option (common) - The project provides tokens, market makers provide funds (stablecoin), with market makers having a call option to purchase at a low price if the price exceeds an agreed price.
This article mainly explains the most common 3. call option model.
[Translation continues in the same manner for the rest of the text]3.2.3 Initial Hedging Operation: Answering "When to Sell?"
The answer is: Sell immediately. The amount sold is precisely calculated to achieve two objectives: 1) Obtain USDT required for operations; 2) Hedge the remaining token exposure.
Action: At the very first moment of market-making, our automated trading system will immediately sell a total of 2,300,000 ABC tokens. Among these, 700,000 ABC is to obtain 700,000 USDT needed for market-making. The additional 1,600,000 ABC is to hedge the remaining unhedged token position.
Why do this:
Meet Operational Needs: This provides us with the dollar liquidity necessary to fulfill all market-making obligations. Achieve True Delta Neutrality: After selling all 2.3 million ABC tokens, we no longer have any unhedged ABC token exposure. Our risk is completely neutral. Lock in Risk: We completely transfer price fluctuation risk, focusing solely on profiting from market-making and volatility.
We will not hold any "naked" ABC tokens waiting for price appreciation. Every token position, whether positive or negative, must be precisely hedged.
3.3. Dynamic Hedging: 24/7 Risk Management
After initial hedging, our risk exposure will continuously change due to market-making activities and market changes, requiring ongoing dynamic hedging.
CEX Market-Making Hedge: When our buy orders are filled, we buy ABC (generating a Long Delta), and the system immediately shorts an equivalent amount of ABC in the perpetual contract market. Vice versa. We earn a 0.1% spread while maintaining Delta neutrality.
DEX LP Hedge: The 500,000 ABC inventory in PancakeSwap carries Impermanent Loss risk, which is essentially a short Gamma position. Our model continuously calculates the LP's Delta (negative when prices rise, positive when prices fall), and hedges in reverse using perpetual contracts.
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