With the Saturn Protocol's move to becoming a new #DeFi primitive, with automatic market making provided by the Liquidity Pools, a natural question arises: how does the automatic market maker know how to set the price for its token markets?
The answer to this question is that trading activity on the platform will determine the fair price of the assets based on supplied liquidity locked inside the liquidity pools. Let's review how automatic price discovery works for every type of token on Saturn Protocol v2.
Price of major liquid cryptocurrencies
When a cryptocurrency is listed on many platforms, as is the case for some of the more famous cryptocurrencies such as BTC, ETH, LINK, MKR, its market price is dictated by the exchange with the most liquidity. As of this writing, this typically means centralized exchanges such as Binance and Coinbase. Other DEXs normally get their price set by professional traders running arbitrage bots against these centralized exchanges.
Because Saturn Protocol v2 natively supports token-to-token trading for every combination of tokens listed on the exchange, and because automated market maker never refuses a trade if it has liquidity available in the liquidity pools, arbitrageurs will trade with Saturn Protocol as soon as the quoted price deviates from that which is set by other markets, such as Kyber or Uniswap. These trades will automatically correct the price of assets listed on Saturn Protocol.
This arbitrage activity will be automatically executed against Saturn Liquidity pools, especially at times of high volatility, ensuring that the price of major cryptocurrencies tracks the price displayed on CoinMarketCap or Coingecko. In return, this steady, regular flow of trades acts as a pulse for the rest of the protocol, making the price of every token update in real time in response to the market conditions.
Price of stablecoins
Stablecoins are a special case of cryptocurrencies that have enough liquidity and whose price is set by outside markets. The reason for separating them into a separate class in this article has little to do with any fundamentals of the price stability mechanism. As far as trading and the fair market price is concerned, the fundamentals are there to convince traders about the price stability, and the behavior of traders is what sets the market price.
The reason why stablecoins deserve a special honorable mention is that they represent an interesting case where decentralized exchanges represent the largest fraction of liquidity, and centralized exchanges see much less stablecoin trading volume (aside from USDT which is a very special case in this industry, and is designed primarily as a centralized exchange native stablecoin).
Long story short, stablecoin arbitrage can be natively done with other DEXs at great, predictable prices and tight spreads. We believe that stablecoin arbitrage will drive a significant percentage of overall trading activity on Saturn Protocol.
Price of other listed tokens
By design, every liquidity pool in Saturn Protocol v2 maintains reserves of tokens against Saturn Tokens. It means that every trade on Saturn Protocol goes through Saturn Token reserves, which makes Saturn Tokens the utility token of the protocol.
Price of each token is determined by the ratio of Saturn vs another token locked up in the pool. Trading activity required to arbitrage major token and stablecoin prices will redistribute Saturn Tokens across the pools. Thus, the more Saturn Tokens staked inside a pool for a given token, the higher its liquidity.
To summarize, investor demand generated by protocol utility sets the price for Saturn tokens, and realtime market conditions reallocate Saturn Tokens among individual liquidity pools for each token, which finely adjusts each individual token price based on every trade going through the protocol.
Price of Saturn Tokens
As mentioned in the previous section, Saturn Token price gets adjusted dynamically based on investor demand and on volatility in the larger crypto markets. This mechanism gives Saturn Tokens dual use case - governance token of Saturn DAO, as well as utility token of the Saturn Protocol.
This design decision, combined with a finite supply of the token that prevents inflation, creates demand for Saturn Token utility which puts buy pressure on the Saturn Token markets, as purchase of these tokens is necessary for earning dividends on fees collected from ever growing trading activity, participating in DAO Governance, for listing new tokens and for providing liquidity to the protocol.
Price of a new token at listing time
When a new token market is created on Saturn Protocol, the creator must supply the token along with some Saturn Tokens in order to initiate the new liquidity pool. The more Saturn Tokens they stake, the higher the initial price will be. This acts as a great mechanism to prevent low-effort token listing spam, ensuring Saturn Protocol automatically pre-screens high quality listings. A high-stake listing is thus considered a bullish signal for a new token listing, as it shows that the founders really believe in their project.
Once listed, the tokens get automatic liquidity for both sides of the market, buy and sell, which prevents price manipulations within the protocol and provides liquidity for the traders. Over time, natural market activity on token-to-token markets will discover a proper allocation of Saturn Tokens for this liquidity pool which determines the price of the newly listed cryptocurrency.
Optionally, the DAO can also vote for a token listing fee at the time the liquidity pool is created, which will create an even higher quality barrier and will generate additional cash flow for the DAO, thereby increasing the price of Saturn Tokens.
These two features, combined with arbitrage trading bots that ensure that stable asset prices get set properly on Saturn Protocol, dynamically adjust Saturn Token allocation among the liquidity pools and set the fair price for every listed token. This price gets adjusted in real time based on investor demand and cryptocurrency market conditions.
Future is bright!
New to Saturn Network?
Read more about Saturn Protocol V2 below, an upcoming major exchange protocol upgrade which will bring token to token pairs, automatic market making, DAO activation, dividend payments and much more!