Vertex Protocol: Arbitrum’s Leading Derivatives Protocol

Forward the Original Title：Vertex Protocol: Arbitrum’s leading derivatives protocol, rediscovering value in the new cycle

After the adoption of the Bitcoin Spot ETF, the market’s attention returned to the Ethereum ecosystem.

The CEO of BlackRock also recently stated that he saw the opportunity to launch an Ethereum ETF; at the same time, the Cancun upgrade of Ethereum in the first quarter is expected to bring down fees, which has also caused everyone to start paying attention to the performance of L2 again.

With various expectations, we have seen the collective improvements of L2. Among those, Arbitrum has also ushered in its own highlight moment:

The price of ARB tokens has reached a record high, TVL has also gradually increased, and market funds seem to be entering Arbitrum. Therefore, we also need to pay attention to Alpha projects that have not yet been discovered.

The battle for on-chain derivatives DEX may be an ongoing narrative, and the competition within the track is not over yet. Thanks to Arbitrum’s lower gas and recent STIP incentive plan, the derivatives DEX in its ecosystem are worth paying attention to again.

Last year, in the derivatives exchange in Arbitrum, the daily trading volume of Vertex Protocol once surpassed GMX to top the list, becoming a dark horse outside the market focus.

This year, when Ethereum L2 is gaining momentum and Arbitrum is reaching new highs, Can Vertex usher in the highlight moment again in this new cycle?

In this issue, we will start with Vertex’s current data, token income, comparison with other projects, and future development plans for an in-depth interpretation.

Vertex, the Latecomer Taking the Lead in the Derivatives Competition

The on-chain derivatives trading track is crowded. How did Vertex Protocol get started and become the leading one?

As a new protocol that was launched on the mainnet in April last year and has only been officially running for 9 months, Vertex combines spot, derivatives (contracts), and lending in one, trying to provide one-stop DEX services.

And more features doesn’t mean better. On the contrary, the more functions there are, the later the launch time will be, the wider the objects to be compared will be, and the greater the competitive pressure will be.

Therefore, if you want to be the last and arrive first, you need to be better in at least two aspects - better experience and better revenues.

The former determines whether traders can stay after they come in, and the latter determines why traders come in. We might as well review it from the perspective of trading experience.

• Better liquidity matching

Different from the general DEX that simply uses the AMM model,Vertex blends two liquidity matching methods - a unified central limit order book (CLOB) and an integrated automated market maker (AMM).

The significant advantage of this hybrid model is that the platform needs to coexist with two types of liquidity, one is the order book liquidity provided by market makers through API, and the other is LP funds provided by smart contracts.

AMM liquidity is on-chain, order book liquidity is off-chain, these two kinds of liquidity are combined through the sequencer, traders see a unified liquidity in the front end, and can trade and settle at the best price. With the combination of on-chain and off-chain liquidity, it also greatly improves transaction efficiency.

• Better capital utilization efficiency:

Vertex has designed a global margin model in which all funds (deposits, positions, and investment profits and losses) can be used for margin, including open positions in spot, perpetual contracts, and currency markets.

The benefit of doing this is that unrealized profits can be used to offset unrealized losses, or used as margin for existing positions or opening new positions, maximizing the use of the trader’s funds.

• Lower fees:

In the context that on-chain Degens are often affected by slippage, MEV and on-chain congestion, Vertex relies on Arbitrum L2’s batch transactions and rollup, which is obviously lower than the gas of the Ethereum mainnet.

At the same time, Vertex also built its own smart contract risk control engine to minimize the impact of MEV.

The figure below shows the fee comparison between Vertex and the leading exchanges as of the end of last year. You can intuitively see that Vertex’s spot and contract transaction fees are significantly lower than the leading GMX and DYDX.

If we look back at the market performance of Vertex in 2023, the data shown in the following multiple data sources show that it has become a force that cannot be ignored in the Arbitrum ecosystem, even in the comparison of derivatives DEX in various ecosystems.

First of all, according to the official Dune data, Vertex holds the largest share of trades across all derivatives exchanges across the crypto market.

As of the date of this article, Vertex’s daily trading volume accounts for 30% of the market share of all derivative exchanges (the red area at the top of the following figure), and this trend of rising trading volume market share has been clearly continuing since last October.

Secondly, from the horizontal comparison of DefiLlama’s data of derivatives protocols, we can also see that in the Arbitrum ecosystem, the daily fees earned by the Vertex protocol are also on the list; if we only consider Arbitrum’s native protocol without considering cross-chain projects, Vertex already has the highest daily acquisition fee among Arbitrum’s native protocols.

At the same time, Messari also has data on the gas cost consumption of projects in each ecosystem. You can see that Vertex is ranked 2nd in Arbitrum, even higher than Uniswap.

All these data actually point to one fact - A large number of users trade on Vertex.

Putting it together, the logic is very simple: if there is a transaction, there will be gas consumption, and the protocol can count the transaction volume and receive fees at the same time.

The Vertex protocol itself has also made an annual summary, which generally shows a simultaneous increase in its user volume and TVL. This is also something that can be foreseen as users enter.

But what’s more important is that currently over 45% of the VRTX tokens are locked and staked, which can reduce the number of VRTX in circulation and alleviate selling pressure.

In addition to the product experience improvements discussed above, a more direct point that can attract traders is:

Currently Vertex can bring more benefits to LPs and traders, and liquidity always goes to the most profitable place.

Dual token incentives start, real income takes over

Adopting the old formula of “liquidity mining”, Vertex Protocol successfully attracted the attention of funds last year.

In the previous incentive plan, the project encouraged users to participate in transactions and share a share of the protocol revenue. In addition to the native token VRTX, thanks to Arbitrum’s ecological incentive plan, users can also share the benefits of ARB. Stimulated by the double rewards, it seems very reasonable for a large number of users to flood in for trading.

But the same old routine also means the same old problems.

Token incentives drive transaction volume, but relying on token emissions to incentivize participation is not sustainable. First, the continued emissions of VRTX will create long-term price pressure on the secondary market. Secondly, incentives are essentially a reflection of marketing expenses, and there will inevitably be a vacuum period after the budget is spent.

Vertex’s response method is: Use real income to take over the traffic brought by liquidity mining.

Users are indeed introduced through liquidity mining, but users’ transactions do also generate transaction volume. As transaction volume increases, the transaction fees of the protocol increase, and the real income increases simultaneously.

These revenues are generated based on actual economic activities, rather than simply from the emission of new tokens.

With a good trading experience and relatively low gas on Arbitrum, under the stimulus of token incentives, a certain proportion of users will inevitably strengthen their trading habits on Vertex. A foreseeable situation is that the users and trading volume of Vertex will grow significantly in the early stage, and then the growth rate will tend to be stable, and the real income will tend to be stable.

Real-world data has also confirmed this.

As shown in the figure above, the platform’s income increases over time (purple), and the portion distributed to liquidity providers (LP) (yellow) has also increased. This means that LPs can obtain continuous profits from the platform’s real income.

For traders, income comes from staking.

Combining the incentives provided by trading and liquidity with the staking functionality of VRTX tokens encourages users to reinvest earned tokens back into the protocol. In this way, users can not only receive staking rewards based on real income, but also help stabilize the token price by reducing the market supply of VRTX.

Using liquid mining to start and real income as continuous support, we can summarize the entire set of positive logic of Vertex:

• As Vertex’s trading volume continues to increase, it can be expected that transaction fees will rise, that is, more and more real income will be divided among LPs, Staker, and traders;
• Staker can get up to 50% of the transaction fee income (ARB + ​​VRTX)
• Traders, when trading, if they have staked, can use the staking reward to offset transaction fees, which also promotes trading intentions
• Transactions generate transaction fees, and rewards (VRTX) can be obtained from them. The larger the trading volume, the more income, and the more VRTX you get as a reward from the transaction
• The rewards are staked again, and the above cycle repeats.

Therefore, we can also see that liquidity mining is the key driving force. Pushing the transaction volume to start, forming habits, and then combining with a good staking model, continue to gain benefits from transactions and stakings. On the other hand, staking leads to less token circulation, which indirectly maintains the stability of the coin price.

However, Arbitrum’s current ecosystem incentive program is still ongoing, and users can still get double rewards for transactions on Vertex. We cannot accurately judge whether users will leave after this incentive disappears, but if the competitive situation is relatively stable and no more similar platforms can provide similar returns, some users may choose to stay on Vertex due to habit.

Of course, the final result also needs to consider whether the protocol itself can do more articles around the token, and whether it can add more trading pairs to attract Degen users. However, generally speaking, it is still the right path for projects to move closer to real income. Incentives alone have no room for survival in the second half of derivatives competition.

At the same time, we conducted a comprehensive comparison between Vertex and the leading GMX and DYDX in terms of market capitalization, TVL and staking returns.

Although the absolute value of Vertex’s market capitalization and TVL is relatively small, it currently provides higher staking returns and supports relatively more TVL with its smaller market capitalization. It can be regarded as a relatively more cost-effective option to gain alpha income.

Future Catalyst: V2 version is coming, absorbing liquidity across multiple blockchains

Beyond data from the past, what potential catalysts are there for Vertex going forward?

Firstly, in the New Year planning of the project, Vertex will launch the latest V2 version in Q1, and it includes more optimizations in user experience, among which we think following are critical:

• Adding long-tail trading pairs: Means more assets are available for trading, including so-called “long-tail asset perps”. In layman’s terms, it means listing smaller tokens that cannot be listed on the large CEX/DEX. This is very beneficial to attracting degen users and creates conditions for players to follow the market’s hot spots for trading.
• Heterogeneous collateral: It is possible to expand the types of margin required when opening a contract, so that it is not limited to cryptocurrencies. However, the official has not released more specific information at present. The author speculates that it may support bonds, RWA or gold as collateral assets to further attract wider liquidity.
• Isolated Margin Perpetual Contract: Under the previous design of global margin, an increase in capital efficiency also implies associated risks. Isolated margin can be seen as a risk management tool, allowing margins to be held in separate accounts to isolate the risks of different positions.

Additionally, heading into February, we believe a more immediate bullish catalyst is Vertex’s upcoming multi-chain product.

Why is this a more obvious benefit? Because this is not a multi-chain in the general sense.

Traditionally, a DEX in one ecology can only absorb the liquidity of that ecology. In order to expand, you need to open an identical DEX on another chain, which is equivalent to reinventing the wheel in different ecology. This is the Multi-chain as we understood it before.

But the problem with the above approach is:

First, multiple ecosystems mean that tokens need to be bridged before they can be transferred. Readers with trading experience will definitely feel the inconvenience.

Second, building a new version of an application on another blockchain is not just copying existing code. It usually involves adapting to the specific technical requirements and standards of the new blockchain, which can be costly in terms of time and resources.

Third, liquidity is extremely fragmented. Every time an application is deployed on a new blockchain, it effectively creates an independent liquidity pool from its original version. When liquidity is distributed across multiple blockchains, each individual pool becomes smaller.

Finally, the more chains are crossed, the greater the interaction and technical risks of assets.

Faced with these problems,Vertex gave another answer: Instead of going to other ecosystems to attract liquidity, it is better to bring multi-chain liquidity to the same place.

We can understand the upcoming updates of Vertex as enabling multiple chains to share the liquidity order book: Users only see the same Vertex, no need to leave the product page, no matter which chain your assets are on, they can be deposited as liquidity for trading or LP.

Judging from the information released so far, Vertex will support multiple EVM-based L1 and L2 assets such as Ethereum, OP, BSC, Polygon, Avalanche, Fantom, Mantle and Base.

Due to space limitations, the specific implementation method of absorbing multi-chain liquidity will not be introduced in detail here. As an expectation, it can be generally understood as depositing assets on different chains into the same Vertex for trading after certain technical processing.

The change in the user’s intuitive experience is very obvious - connect the wallet, see which chain has assets, and use the assets on that chain to trade, eliminating the need for cross-chain links.

At this point, we can summarize some of Vertex’s favorable factors in the near future:

• It is not that you go to a place with better liquidity to find liquidity, but that liquidity comes to you in a unified way, making the operation more convenient.
• The multi-chain design makes it easier to cooperate with other projects. If other projects in different ecosystems want to integrate derivatives trading functions, they can cooperate with Vertex to import liquidity into the trading platform and provide initial liquidity startup for certain tokens.
• In February, Arbitrum will also launch the STIP Ecological Incentive Program, enhanced by the L2 narrative. Excellent derivative DEX within the ecosystem will attract more attention.

Finally, under the bull market expectation, there will be more on-chain transaction demand and more price fluctuations. The derivatives track will naturally benefit from it.

Previously, Vertex has seen a surge in trading volume through liquidity mining, but it has not stopped. The presentation of real income, coupled with the future design of attracting liquidity across multiple chains, may enable this dark horse of last year to go further.

In all narratives, the one that facilitates liquidity and creates conditions for trading will always be favored by users.

The war on crypto derivatives exchanges is not over yet. Who can finally capture the hearts of users in terms of experience and returns? Let us wait and see.

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