Uniswap v3 is a DEX based, on the same principle as Uniswap v2, automated market makers (AMM). A variety of new features have been added to maximize returns, minimize slippage, and improve the management of risk.

With Uniswap v3, traders as well as liquidity providers will benefit from the combination of new features. Liquidity providers may increase the return on their capital by up to 4 000 times and better align potential risks. Furthermore, the developers have improved the security and decentralization of the protocol.

In more detail, we will review the following major updates:

1. Concentrated liquidity
2. New fee tiers
3. Range limit orders
4. Non-fungible liquidity
5. Advanced oracles

Concentrated liquidity

A major feature of Uniswap v3 is the option to concentrate liquidity. In Uniswap v2, liquidity could only be provided evenly along the price curve. This was very inefficient for liquidity pool (LP) with stable assets as they could only trade in a very narrow range of prices. A $DAI/$USDC Uniswap pool, for example, uses less than 1 % of capital when trading between 0.99 USD and 1.01 USD because liquidity is spread evenly over the entire price curve. Most trading fees for LP and also most trading volumes pass through this price range.

UniSwap v3 provides the option of choosing your own price range when providing liquidity. Capital can be concentrated in the price ranges where most trades occur, thereby making it more efficient.

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It is important that users trade with the combined liquidity, available at a particular price point. All price curves that overlap at that particular price point contribute to the combined liquidity. Trading fees are directly proportional to the volume of liquidity provided by all LP in a given range.

Concentrated liquidity concept provides liquidity providers with increased capital efficiency. Suppose you use a liquidity range of 0.99 to 1.01 in a stablecoin LP, which is a two-cent range. This means that the liquidity provider's liquidity will be used for more trades, resulting in a higher return on swap fees = higher return from liquidity providing. As a result, this is beneficial for traders who trade specific stablecoins. This is because greater liquidity is provided in this price range, resulting in fewer slippages and therefore better trading execution.

Active liquidity is another upgrade to concentrated liquidity. As the price of an asset rises or falls, it may leave the liquidity range defined by the LP position. The position ceases to be active and does not generate profits until the price returns to the range in which it was selected.

As prices move in one direction, the LP acquires more of one asset as swappers demand the other until all their liquidity is concentrated in just one asset (this behavior is less likely to occur in the Uniswap v2 version since LPs rarely reach the upper or lower bounds of the price of the two assets, i.e., 0 and ∞).

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New fee tiers

Swap fees are no longer automatically reinvested as they were in previous versions of the Uniswap platform. As of the new version, they are collected separately from the pool and must be manually transferred.

In addition, Uniswap v3 introduces multiple pools for each pair, each with a different swapping % fee. There are four options available to liquidity providers: 0.01 %, 0.05 %, 0.30 % and 1 %. By offering this range of options, LP will adjust their fees in accordance with the expected volatility of the pair. When it comes to uncorrelated pairs such as $ETH/$USDC, liquidity providers take on more risk, and in contrast, minimal risk when it comes to correlated pairs such as $USDC/$DAI. Assets with the highest fees will be those that are not traded as frequently. This is because liquidity providers will be motivated to offset the volatility and associated risk of holding these assets for the duration of their position. UNI governance may add additional fee levels.

Range limit orders

By using this feature, you will be able to achieve the same goal as a traditional limit order, which can be set to a specific price. In the same way as traditional limit orders, range limit orders can be placed with the expectation that they will be executed at some point in the future, with the target asset becoming available for execution after the spot price crosses the whole range of the order.

Here is more information about range limit orders.

Non-Fungible Liquidity

Uniswap v3 allows you to define your own price curve in each LP, meaning that your positions cannot be represented by ERC-20 tokens anymore.

As a result, the Uniswap platform includes a new feature: the liquidity provided is tracked using non-fungible tokens known as ERC721.

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Advanced Oracles

Uniswap v2 introduced time-weighted average price (TWAP) oracles. This TWAP recorded the cumulative prices of Uniswap pairs on a per-second basis. Calculating the exact TWAP for a particular period can be done by checking the price totals at the beginning and end of the period.

With Uniswap v3, all pools can serve as an oracle, providing access to price history and liquidity information. With this upgrade, a variety of on-chain applications are now possible. As of version v3, the data availability period could be extended ~9 days or longer.

Uniswap is an innovative and forward-looking protocol. If you are interested in technology and calculations, you may wish to read the Uniswap v3 whitepaper, which explains everything with specific calculations and formulas. The link can be found here.