Unveiling the Core Logic of Algorithmic Market Makers

Market makers, after acquiring tokens from the project party, usually adopt a series of strategies to manage risks and obtain profits. This article will explore common market-making models, particularly the behavior of market makers under the call option model.

Market Status

Currently, there are mainly three types of market-making models in the market:

1. Renting Market Making Bots - The project party provides funds, and the market maker provides technical support.
2. Active Market Making - The project party provides tokens, and market makers provide funds for market making and share the profits.
3. Call Option Model - The project side provides tokens, market makers provide funds, while obtaining low-priced buy options.

This article will focus on analyzing the third type of call option model.

Common Market Making Agreement Terms

For example, in a fictional case, a typical market making agreement may include the following content:

• Market makers need to provide liquidity on multiple exchanges, such as Binance, Bybit, etc.
• Provide liquidity pools on decentralized exchanges like PancakeSwap
• The project party lends a certain amount of tokens to the market maker.
• Market makers obtain tiered call options, allowing them to buy tokens at a low price in the future.

Market Maker’s Operating Strategy

As a market maker pursuing Delta neutrality, after obtaining the tokens, the following strategies are usually adopted:

1. Immediately sell most of the tokens to obtain the stablecoin funds needed for market making.
2. Hedge the remaining token positions to achieve Delta neutrality
3. Continuously provide market making in centralized and decentralized exchanges to earn the bid-ask spread.
4. Dynamically hedge liquidity pools to avoid impermanent loss risks.
5. Using options for Gamma Scalping to profit from volatility
6. Execute the option when the price exceeds the strike price to obtain risk-free arbitrage.

Conclusion

The behavior of market makers is not malicious, but rather a rational choice to pursue risk neutrality and profit maximization under the existing mechanisms. Market participants should understand this logic and maintain a sense of awe.