Introduction

Wait, hold up…how did $GMX hit $30? I thought they said that we were in a bear market?!

BTC finally managed to form a local bottom at $17K on 18 June 2022 and has shown some relief, hitting highs of $24K just a month later. Meanwhile, altcoins are flying left and right, with many alts such as $GMX, $SNX, $AAVE, and $UNI pumping over 100% in the same period. Is it DeFi Summer again (who am I kidding)? Or could it be that fundamentals are starting to matter?  👀

Before you FOMO into any of these coins, your friendly analysts at Treehouse did a deep dive to present you with all the information you need to wrap your head around one of the most promising projects in DeFi today – GMX! In this piece, we walk through the mechanisms that power the protocol and talk about its competitors, risks, and future plans to provide insight into why many are accumulating GMX despite the bear market.

A Case For Perp Decentralized Exchanges (DEXs)

Reminiscing the bull markets of yesteryear, many retail participants made insane money on what felt like daily occurrences of 100%+ altcoin rallies. These movements were exacerbated by the convenience of perpetual futures, which allowed users to trade with as much as 50x leverage. By the end of 2021, perpetual futures trading volume grew to an unprecedented $57T market, up +498% from the previous year. 

Things have obviously changed since the beginning of 2022, with the total crypto market cap falling 67% year-to-date in light of poor macro conditions. While the recent fallout in crypto has also raised many regulatory red flags and incoming governmental restrictions, we believe that the case for Perp DEXs remains stronger than ever.  

In this article, our analysis focuses on a subset of DEXs that we believe has the strongest upside – Perpetual Futures DEXs.

Today, Perp DEXs command a meager 1.75% of the total perpetual trading volume. 

On the other hand, DEXs comprise 12% of the total spot trading volume. This leaves significant upside for Perp DEXs if they can catch up and slowly converge to the 12% of their spot counterparts!

*CEX volume data taken from FTX Volume Tracker, which includes volumes of all the different CEXs

**Perp DEXs volume data taken from their respective dashboards

What Is GMX?

What is GMX, and why are so many Crypto Twitter influencers championing GMX recently? You may have also seen tweets of BitMEX’s co-founder Arthur Hayes accumulating $3M of the token.

To understand the buzz around GMX, we must first wrap our heads around the protocol and why many fervent supporters believe in it.

In short, GMX is a decentralized exchange on Arbitrum and Avalanche that provides perpetual futures trading with low fees and zero price impact. At present, the vast majority of the platform’s margin trading volume takes place on Arbitrum, generating ~85% of the protocol’s overall revenue. 

GMX came about as a merger of the XVIX and Gambit communities. With significant overlap in their community and contributors, they decided to form a DAO that brought together the best of both, combining the simplicity and elegance of XVIX approach to liquidity with the innovations and trading platform developed in Gambit.

Thereafter, Gambit relaunched on the Arbitrum network in July 2021. Since its inception on Arbitrum, GMX has been growing steadily, amassing over 61.8K new users with a daily trading volume of $100M on Arbitrum as of 23 July 2022. 

Today, there are 5 markets available on GMX (BTC, ETH, LINK, UNI on both Arbitrum and Avalanche with an additional AVAX market on Avalanche), with the majority of its volume coming from BTC and ETH trades. In addition, GMX offers leveraged trading with a maximum leverage of 30x. On such leveraged trades, users incur a one-time 0.1% Taker Fee on their notional position as well as a Borrow Fee paid hourly. To date, GMX has collected a total of $49M in fees!

Who Founded GMX?

GMX was created under the control of a DAO with a group of anon community developers, including @xdev_10. While an anon team often raises red flags due to fears of devs rugging, it is one of the safer ways to operate a censorship-resistant exchange amidst a rapidly evolving regulatory environment. The anonymity of the project has yet to be a large concern as the team has been consistently delivering new updates and products and regularly addressing community concerns.

What Makes GMX Unique?

Shared Liquidity Mechanism

GMX is differentiated from its competitors through its liquidity pool mechanism, GLP, which acts as the central clearing house for leveraged traders. GLP is a multi-asset pool containing all the tradable assets on the platform, similar to a crypto index ETF with target weights for each constituent asset. The platform’s target weights are adjusted dynamically as a function of net open interests among perp traders – for example, if more long ETH perp positions are opened, GLP’s ETH target weight will simultaneously increase. 


Liquidity providers (LPs) are incentivized to add liquidity by swapping their assets for GLP tokens (“minting”). A swap fee is algorithmically determined to incentivize trades in the direction of bringing the actual weight closer to the pool’s target weight – for example, if ETH’s actual weight is lower than the target weight, users are incentivized to sell (swap) ETH to mint GLP with lower swap fees. This pool of assets serves as liquidity for perp traders whilst LPs are rewarded through swap fees. As of 23 July 2022, the GLP pool on Arbitrum has a total notional value of $187M comprising assets such as ETH, BTC, UNI, LINK, USDT, and more.

LPs Being The ‘House’

Perp traders on GMX trade against the GLP asset pool rather than against another trader in the order book, hence drawing similarity to a central clearing house. Since LPs act as the counterparty to perp traders, they earn both trading fees and mark-to-market P&L as position takers. The risk taken by GLP LPs is a combination of the GLP index weight design and perp traders’ net open interest. If perp traders’ net positions lose money, LPs would benefit from the distribution of wealth effects. 

Distribution Of Wealth From Traders To LPs (And Vice Versa)

Given the zero-sum structure, the trader’s P&L shows how much P&L LPs make in comparison to holding the assets in the pool (excluding fees) outright. As of 23 July 2022, leveraged traders had a cumulative loss of $34M which was distributed to the LPs as profit (Figure 4). This profit is distributed in terms of reduced/increased exposure to GLP assets, whichever is more favorable for LPs. 

In a simplified example, assume the GLP pool consists of only 2 assets, $100K worth of ETH and $100K USDC, provided by LPs. A trader, John, opens a leveraged long ETH perp position worth $70K, leaving the net exposure of the GLP pool to be $30K ($100K – $70K) worth of ETH.

If ETH declines by 10%, John’s $70K ETH position would lose 10% or $7K. Since the LPs are less exposed to ETH after John’s trade, a 10% drop in ETH price would only generate a $3K loss to the LPs’ remaining ETH that would have been a $10K loss if John did not utilize/borrow the ETH. This leaves the LP with a net profit of $7K. 

Figure 5 demonstrates LPs’ net benefit in a few price movement scenarios. This illustration assumes the following:

  1. GLP pool consists of $100K worth of ETH and $100K USDC at inception
  2. The trader, John, opens a $70K worth of Long/Short ETH position

No-Price-Impact Execution At Oracle Price

In addition to the shared liquidity mechanism, GMX adopts a mix of Chainlink oracles and FTX/Binance/Bitfinex pricing sources to mark perpetual futures. Since no order book exists and all trades are executed against the GLP asset pool, trades are executed at the current oracle price with no price impact, provided there is sufficient liquidity in the GLP pool. In most CEXs, order books are used to “mark” perp prices which could lead to premature liquidation, as exchanges protect themselves from liquidity gaps around the prices where margins exhaust. 

As observed in Figure 6 above, even when a large buy order of $10M is placed, the entry price remains the same as the price obtained by the Chainlink price feed, and no price impact is incurred. 

Token and Tokenomics 

GMX has two native tokens – GMX and GLP.

GMX

GMX is the platform’s native token that has both utility and governance functions.

Staked GMX earns 30% of fees generated from the platform’s trading activity on both Arbitrum and Avalanche, in contrast to GLP, which accrues 70% of fees from just its own single chain. Staked GMX also earns 2 other types of rewards, which will be elaborated below.

Token Distribution

As of 23 July 2022, the circulating supply of GMX is 7.8M, with 85% of tokens staked and 6% in its liquidity pool. Based on the team’s calculations, the supply of GMX tokens is expected to grow to a maximum of 13.25M. The initial float stood at 52% with an initial circulating supply of 7M with an annual inflation rate of 20%.

Staking Rewards

Users who stake GMX receive 3 types of rewards (esGMX, multiplier rewards, and platform trading fees) to incentivize staking and reduce selling pressure.

1. Escrowed GMX (esGMX)

esGMX is earned as a GMX staking reward and can be used in two ways.

a. Staked for rewards similar to regular GMX tokens

Each staked esGMX token will earn the same amount of esGMX, multiplier points, and ETH / AVAX rewards as a regular GMX token.

b. Vested to become GMX tokens over one year

Through vesting, esGMX are converted into GMX tokens. Vesting is a linear process over one year, and vested GMX tokens can be sold immediately.

In order to start vesting, the average number of GMX or GLP tokens that were used to earn the esGMX rewards must be reserved. For instance, if you staked 1,000 GMX and earned 100 esGMX, then to vest 100 esGMX, 1,000 GMX must be reserved in a vault.

In addition, once esGMX tokens are deposited for vesting, they cease to accrue any staking rewards, but the staked GMX tokens that are reserved in a vault will still accrue rewards.

This is designed to prevent GMX from becoming a typical ‘farm-and-dump’ token as it incentivizes holders to continue staking their rewards and original tokens. It also allows the protocol to continue growing without constant selling pressure, leaving more esGMX locked up.

esGMX Emission Schedule

Starting from September 2022, esGMX emissions for GMX will be halved from 100K per month to 50K. In addition, from June 2022, esGMX emissions for GLP will be changed to be dynamic instead of fixed, where the amount emitted would be calculated to target a certain APR (ETH / AVAX + esGMX). Based on the protocol’s most recent governance vote in May, the target APR is 20% after August 2022.

2. Multiplier Points

Multiplier Points (MPs) reward long-term holders without inflating GMX supply.

When you stake GMX, you receive MPs at a fixed rate of 100% APR. 1,000 GMX staked for one year would earn 1,000 MPs.

MPs can be staked for protocol fee rewards and earn the same amount of ETH / AVAX rewards as staked GMX tokens.

When GMX or esGMX tokens are unstaked, a proportional amount of MPs is burnt. For example, if 1000 GMX is staked and 500 MPs have been earned so far, then unstaking 300 GMX would burn 150 (300 ÷ 1000 × 500) MPs. The burn will apply to the total amount of staked and unstaked MPs.

3. ETH/AVAX Rewards

30% of fees generated from swaps and leverage trading are converted to ETH / AVAX and distributed to staked GMX tokens. Staked GMX on Arbitrum earns ETH, while those on Avalanche earn AVAX.

GLP

GLP is the platform’s liquidity provider token. It consists of an index of assets used for swaps and leverage trading and can be minted with or burnt for any index component asset.

GLP Composition

GLP is composed of a mix of volatile and stable assets. As of 23 July 2022, it is made up of 52.2% of stablecoins on Arbitrum and 60.0% of stablecoins on Avalanche. Given that it is made up mostly of blue-chip assets like Bitcoin and Ethereum along with a healthy percentage of stablecoins, it can be almost viewed as a crypto index ETF.

GLP price is tied to the overall valuation of the underlying GLP assets.

Staking Rewards

For Arbitrum, holders of the GLP token earn esGMX rewards and 70% of platform fees which are distributed in ETH, while for Avalanche, the fees are distributed in AVAX instead of ETH. 

As of 23 July 2022, GLP’s APR on Avalanche is 32.49% (23.79% from AVAX fees and 8.70% from esGMX), while the APR on Arbitrum is 29.15% (24.21% from ETH fees and 4.94% from esGMX).

Competitor Analysis and Landscape

GMX is currently the only protocol that facilitates perpetual futures trading using the shared liquidity model. The table below shows some of the mechanisms other decentralized perpetual trading platforms currently employ.

Protocol Comparison

*30-day revenue that is annualized

**Daily volume is calculated as an average from 25 June to 23 July 2022

***All data were taken on 23 July 2022

Price Metrics Analysis

As one of the first movers in this industry offering perps trading on a DEX, dYdX has the highest total users and daily volume amongst all the DEXs listed. However, the FDV per User for dYdX is $35.9K. This means that with 61.1K users on the platform, buying dYdX is akin to paying a hefty $35.9K per current user. On the other hand, GMX is relatively cheaper because it has the lowest FDV per User value at $5.66K. GMX also has one of the lowest P/S ratios of 11.9x, making it one of the most undervalued Perp DEXs with competitive daily trading volumes and total annual revenue.

Tokenomics

It is evident that GMX has arguably the best tokenomics due to it having the highest initial float and also the lowest token inflation rates. A token with a tiny float and high inflation rates creates huge potential for short-term euphoria but brings long-term issues. To elaborate further, a small initial float often results in an overly inflated FDV in a bull market. When high inflation occurs in the form of team/investor unlocks or farming rewards, these participants recognize the out-of-whack FDV, thus creating heavy selling pressure and declining token price. 

Because of the clear value accrual back to token holders, they are also more likely to HODL their GMX tokens for the long term. While dYdX boasts one of the highest volumes and revenue, none of it goes back to its token holders yet – at least until dYdX V4 is out. Apart from dYdX, one could argue that PERP is superior to GMX as a higher percentage of its revenue goes to PERP token holders. However, PERP generates significantly lower revenue as compared to GMX. As a result, both PERP and dYdX holders are not as monetarily incentivized to HODL their tokens.

Good tokenomics are often reflected in the long-term price. When compared to their ATH price (Figure 18), most of these assets are down significantly, with dYdX and PERP losing more than 90% of their value from the top. The clear outlier is GMX, where it only lost 56.1% of its value. While it is still down by a lot, it shows that there is significantly less selling pressure which would make its price more sustainable in a bull market. 

Risks

Layer-0 and Layer 1 Risks 

Layer-0 risks are inherent risks that are borne by every DeFi user. These risks are related to infrastructures like cloud service providers and DeFi wallets.

Layer-1 risk in DeFi generally refers to chain ecosystem risk. In the case of GMX, it revolves around the safety and security of the two chains it operates on: Arbitrum and Avalanche.

Layer-2 Risks

The main layer-2 risk associated with GMX lies in its smart contracts. GMX developer @xdev_10 had responded to a smart contract review of the protocol by @BowTiedPickle. In this response, @xdev_10 addressed a number of concerns that were brought up. However, one of the most pertinent issues surrounded the MintableBaseToken.sol contract, which in theory would allow governance to mint and burn tokens freely.

@xdev_10 initially responded in a tweet, mentioning that admins would only execute this contract during an emergency. For instance, if the price approaches the bounds of the current price range in the Uniswap V3 pool, more tokens would be minted to prevent the price from entering a region of low liquidity. In the event that this contract is used by malicious actors, there would be a huge number of tokens minted and dumped on the market. 

This issue has since been rectified, and in replacement of the unrestricted mint-and-burn function, 50,000 GMX tokens are held by the multi-sig in the event of an emergency. This can be verified by taking a look at the new contract which has been deployed. A GitHub commit titled “remove mint function” can be found here, which shows the updated timelock without the unrestricted mint/burn function.

Other Risks

Another pertinent risk associated with GMX is incumbent Perp DEXes migrating to Avalanche and Arbitrum. This could cause GMX to lose its market dominance as incumbents capture a portion of the market. However, GMX is constantly innovating, and various other protocols on Arbitrum and Avalanche plan to leverage GMX to develop new strategies for investors. 

More information surrounding risks in DeFi can be found in our Risk Premia In DeFi article here!

Moving Forward

As of now, GMX is active on only 2 chains and allows for the leverage trading of 5 assets (ETH, BTC, LINK, AVAX, and UNI). In the future, GMX seeks to add more tail-risk assets into its trading arsenal and also aims to expand into other chains as it recognizes the volume that it could capture by adopting this new strategy.

However, going into different assets would require the use of synthetics, as highlighted by GMX intern on Twitter. Similar to how GLP provides liquidity to traders, GD tokens will be introduced to act as a liquidity provider for synthetic assets. By utilizing synthetic tokens, there is no need for the platform to hold any of the underlying assets. As such, the GD tokens will represent a pool of USD rather than a basket of assets like GLP. Beyond just crypto assets, GMX would also be able to capitalize on the sheer size of the commodities, forex, and stock markets, inevitably leading to an increase in the fees accrued to GMX token holders. 

Adding support for more chains would generate more growth as well. Being on Arbitrum and Avalanche has supported the growth of the protocol due to their rapidly expanding ecosystems. With the initial launch of Arbitrum Odyssey, there was a surge in volume on Arbitrum-based protocols like GMX as users were keen on getting in on the NFTs and potential airdrop. 

Various features are coming to GMX with the launch of its X4 update. Details on the improvements can be found in this article published by the GMX team on April 8th. 

However, given the current macro conditions, users may not be keen on holding GLP and GMX due to their volatile nature. Currently, GMX does not offer a low market risk strategy and may not be able to fully capitalize on user growth. This is where protocols like Umami and Dopex come into play. They intend to use GMX as a way to generate yield through a delta-neutral USDC vault and Atlantic Options, respectively.

Umami’s USDC Vault

Umami plans to launch a USDC Vault, which pays out ~20% APY in USDC itself. After the UST fiasco, investors might be skeptical about how the protocol can provide such high returns, but the team at Umami has emphasized that their yield is not based on inflationary tokenomics but rather sustainable protocol revenue. Figure 20 below highlights how Umami uses Tracer and GMX as a means to achieve a delta-neutral strategy. More details can be found here!

Dopex’s Atlantic Options

Dopex’s integration with GMX would allow users to insure their leveraged perpetual positions against liquidation using options. This strategy would be beneficial during volatile market conditions as investors would be exposed to less risk as opposed to vanilla leverage trading. The figure below (@SalomonCrypto) highlights the mechanism that Dopex aims to implement.

By integrating with GMX to offer a lower-risk alternative to vanilla leverage trading, GMX would indirectly be able to attract more users. Strategies which are deemed low-risk even during volatile market conditions are key to ensuring GMX retains substantial trading volume. This would ensure a steady flow of revenue accrued to GMX token holders. 

Conclusion

We believe that the potential upside for the decentralized perps space is massive, and GMX will continue to play an important role in revolutionizing this space. Its sleek user interface and no-slippage mechanism also make it an attractive platform for traders to trade on. Furthermore, GMX has multiple integrations in the works, with Dopex and Umami offering investors innovative ways to earn lower-risk yields.

While dYdX has been a pioneer in the space, GMX’s fundamentals and unwavering commitment to bettering the platform with innovative ideas to bring it more users and volume leads us to believe that GMX is undervalued and will be re-rated appropriately over time. 

Long-term investors should continue to keep an eye on GMX as a possible project with sound tokenomics to accumulate in this bear market if one truly believes in the decentralized perps space. 

If you are interacting with GMX/GLP, view your positions on Harvest by Treehouse, which currently supports GMX Earn!