MCFAM Seminar - Convexity costs in Automated Market Makers

Speaker: Eric Falkenstein

Abstract: The most common blockchain trading contracts are based on a constant product rule, a*b=k, which subjects liquidity providers to negative convexity.  This ‘gamma cost’ for most contracts exceeds fee revenue. A solution is proposed to remove this cost by incenting liquidity providers to act as price-setting arbitrageurs while also preventing a subset of LPs from dominating the others.

Bio: Eric Falkenstein received his Ph.D. in economics from Northwestern in 1994 and wrote his dissertation on the low return to high volatility equities. He has written articles in several academic journals, including the Journal of Finance, and published two books—Finding Alpha and The Missing Risk Premium. He worked at KeyCorp as a risk manager and was head of economic capital allocations across the many bank business lines. At Moody's, he created their default model for private companies. He has been a long-short equity portfolio manager at various hedge funds and is currently working on Ethereum contracts and incubating a long-short equity strategy.