Why DeFi Needs an Optimized Liquidity Layer

Kamino Finance is optimizing the liquidity layer on Solana. What could this mean for DeFi?

Why DeFi Needs an Optimized Liquidity Layer

Note: This article is not financial advice. Kamino Finance does not endorse any tokens or platforms mentioned in this article.


  • Solana is one of the highest-performing blockchains for DeFi.
  • CLMMs and DEX aggregators have massively improved trade efficiency on-chain.
  • Improving the UX for providing liquidity is the next big step for decentralized trading.

Liquidity determines how quickly and efficiently one asset can be swapped into another without losing value. The more liquidity a market has, the more capital-efficient the trading on that market becomes.

For decentralized finance (DeFi), the quality of its liquidity depends on the relationship between technological innovation and user participation. Accordingly, even the most advanced decentralized exchanges (DEXs) are useless without liquidity providers (LPs) who supply their tokens to facilitate trade.  

As DeFi continues to optimize services to attract a larger market share from centralized and traditional finance (CeFi and TradFi), this article argues that DeFi must optimize its liquidity layer if DEXs ever want to compete with centralized exchanges (CEXs) for the majority of crypto trade volume.

DeFi is Still Young and Building on Constantly Improving Technologies

DeFi relies on several layers of technology to facilitate peer-to-peer financial services. Each of these layers has seen significant improvements since DeFi first emerged, and adding an improved and optimized liquidity layer could provide the next steps in DeFi's evolution.

An Improved Settlement Layer

The settlement layer is the base layer of DeFi, where transactions are finalized and stored as secure and immutable truth. This layer is essentially the blockchain that DeFi is built on, and its performance has a major influence on the limits of what DeFi can and cannot do.

Solana is a public blockchain that has developed multiple innovations making it fertile ground for DeFi. The TPS of the network and cost-effective fee structure make it possible to support high-frequency trading (HFT) and other web-scale activities that demand efficient throughput at affordable prices.

An Improved Application Layer

One step above the blockchain come the smart contracts that facilitate DeFi products and services. These, too, have improved by leaps and bounds.

By using an application like Jupiter Aggregator, users can instantly discover the most capital-efficient routes for making trades. This is a huge improvement over checking every DEX on a network, and Jupiter will also calculate the best way to split transactions between DEXs for maximum capital efficiency.

In addition, a huge improvement to the DeFi application layer was introduced in 2021 with the launch of the first concentrated liquidity market maker (CLMM). CLMMs can minimize the number of tokens necessary to achieve deep liquidity on a DEX compared with a traditional automated market maker (AMM) and provide zero-slippage on trades.

It's Time to Improve the Liquidity Layer

DeFi has enormous potential when operating on a blockchain capable of finalizing massive TPS. The development of CLMMs is a breakthrough for the DEX ecosystem that could take advantage of this throughput one day. However, one ingredient is missing: users providing concentrated liquidity.

Here are some of the pain points that may be reducing participation from LPs:

  • Liquidity positions on CLMMs can be complex to set up.
  • They require active market-making strategies to avoid severe impermanent loss (IL) and to capture the most fees.
  • CLMMs force LPs to manually compound their earned fees and rewards. Auto-compounding is not possible.
  • LPs receive an NFT as a receipt for their deposit. Unlike an LP token, a CLMM NFT cannot be used as collateral in greater DeFi.

Additionally, the users who do provide CLMM liquidity are doing so inefficiently, as can be seen from data captured over June 2022:

uniswap v3 active liquidity management clmm automated

The vast majority of concentrated liquidity positions set on Uniswap v3 were out of the current price range, which means traders couldn't access this liquidity, and LPs weren't earning fees.

So, at the current junction of modern technology and human users, there needs to be an optimized liquidity layer that is both capital efficient and user-friendly. There is much room for improvement here, and Kamino seeks to make that difference.

Improving the Liquidity Layer  for DeFi's Biggest Users

According to Chainalysis, by the middle of 2021, 60% of DeFi traffic consisted of "large institutional transactions" that were $10 million or more. This was a time when DeFi's total value locked (TVL) was more than $200 billion, and since then, things have changed.

DeFi's TVL has decreased dramatically, but its underlying tech has improved significantly at the settlement and application layers. With the optimization of DeFi's liquidity layer, it's not unthinkable that large institutional transactions will seek out the best user experience for trade.

Swapping $10M on Ethereum

In this screenshot recently taken from 1Inch, we can see an institutional-sized transaction on Ethereum routed through Uniswap v3's CLMM. It costs $10 in fees and could take several minutes to execute, but price slippage is almost entirely negated.

Swapping $10M on Solana

In comparison, this screenshot from Jupiter shows the same large trade executed on Solana for under a penny. Still, the slippage is massive due to thin and inefficient liquidity. Moreover, each route avoids the CLMMs currently available on Solana, since no CLMM has enough liquidity to fill the order.

Let's look at another example: swapping 1,000,000 USDC for each network's native token. We can again see how Solana's speed and cost cannot match the deep liquidity supplied for trades on a network that provides a comparatively worse user experience.

Swapping for ETH

Again, routed through Uniswap v3, the trade for ETH sees very little slippage but at a greater cost per transaction ($17). On the other hand, the swap for SOL sees a large amount of slippage, but the transaction costs less than a penny.

Swapping for SOL

This is a mismatch between network performance and liquidity that Kamino is determined to solve. If Solana's liquidity layer can be optimized to attract deposits from LPs, DeFi would be firing on all pistons through every layer, and then there is little doubt that DEX volume could soon take over the CEX in the next bull market.

Kamino Opens Possibilities for High-Volume and High-Frequency Trade on Solana

Solana needs LPs to step up to the plate to make the network a premier venue for decentralized trade. Enter Kamino, a major piece of infrastructure built to optimize liquidity positions on Solana's next-generation DEXs.

Anyone can deposit their tokens as an LP on Kamino and let the protocol automate every aspect of managing their liquidity. By making it incredibly easy for LPs to provide liquidity on CLMMs, Kamino also increases the depth of liquidity for larger trades executed on the network.

Kamino uses automated strategies to set optimal ranges when providing CLMM liquidity. This is an advanced approach to improving UX for LPs, and Kamino could be the missing piece of the puzzle for attracting deep liquidity on Solana.  

By making liquidity easier than ever to provide, nearly anyone can participate as an LP on Solana's cutting-edge CLMMs. As a result, traders will find the deepest liquidity available on the fastest and most cost-efficient blockchain today, thanks to Kamino.