AMM (Automated Market Maker): how an exchange works without sellers, buyers, or an order book

In traditional trading, everything is built around matching orders: someone wants to buy an asset, someone else wants to sell it, and the exchange brings these people together. In decentralized finance, this task is increasingly performed by an algorithm. It calculates the price, executes the swap, and manages token reserves in a dedicated pool.

This is how an AMM, or Automated Market Maker, works. This technology has become one of the main driving forces behind the DeFi market and has effectively enabled any cryptocurrency holder to become a liquidity provider for an exchange.

An AMM is a smart contract-based protocol that allows users to exchange digital assets without a traditional order book or a centralized intermediary.

The price is not determined by matching buy and sell orders. Instead, it is calculated using a mathematical formula that takes into account the amount of assets in the liquidity pool. The less of a particular token remains in the pool, the more expensive it becomes relative to the second asset.

Automated market makers have become one of the fundamental components of DeFi, whose rapid growth began in 2020. As of July 2026, the total value locked in AMM protocols exceeds $11.3 billion. At the market peak in November 2021, this figure approached $74 billion.

The main change introduced by AMMs is the accessibility of liquidity. Previously, it was mainly provided by banks, brokers, funds, exchanges, and large professional market participants. Today, almost any user can add assets to a trading pool and receive a share of the trading fees.

One of the first automated market makers was the decentralized exchange Bancor, launched in 2017 during the first major digital asset boom.

Bancor introduced a model in which liquidity was stored in smart contracts and swaps were carried out without searching for a matching seller or buyer. For the market at the time, this represented a significant technological shift.

However, the technology only became truly mainstream after the launch of Uniswap in 2018. The platform simplified AMM mechanics and made them easier to understand for users and developers. As a result, the Uniswap model became an industry standard that dozens of other projects began to copy and develop further.

By 2026, the number of active AMM protocols had exceeded 50 and continued to grow.

The core of an automated market maker is a liquidity pool. It is a reserve of tokens locked in a smart contract.

For example, an ETH/USDT pool may contain a certain amount of Ether and the USDT stablecoin. When a user buys ETH, they send USDT to the pool and withdraw a portion of the Ether. The balance of assets changes, and the price of the next transaction changes automatically along with it.

The smart contract performs all operations independently: it receives tokens, calculates the exchange rate, transfers the asset to the buyer, and updates the state of the pool. No exchange operator, broker, or manual transaction confirmation is required.

The larger the transaction is relative to the size of the pool, the greater its impact on the price. Therefore, in smaller pools, a large purchase may be executed at a less favorable rate than the user expected.

The ratio of tokens determines the internal price in a pool and does not have to match the prices quoted on other platforms exactly.

To obtain external data, some protocols use blockchain oracles. These are services that transmit information from the outside world to smart contracts, including current digital asset prices from different exchanges.

However, arbitrage traders often play the main role in aligning prices. If a token is cheaper in an AMM pool than on other platforms, they buy it from the pool and sell it at a higher price on the market. If the price is too high, the reverse transaction takes place. Such trades gradually bring the price back toward the broader market average.

At the same time, not every AMM uses an oracle to calculate prices directly. The specific mechanism depends on the architecture of the protocol.

Automated market makers operate using different formulas. Three models are the most common.

Users provide liquidity in AMMs. They deposit tokens into a smart contract and become liquidity providers.

In return, the user usually receives LP tokens confirming their share of the pool. When other participants make swaps, they pay fees. A portion of these funds is distributed among liquidity providers in proportion to their contribution.

When leaving the pool, the user receives their share of the assets together with the accumulated fees. However, the token ratio may have changed by then, meaning the final result does not always match what the user would have received by simply holding the same assets in a wallet.

The main advantage of automated market makers is accessibility. To trade, users generally only need to connect a compatible cryptocurrency wallet and confirm the transaction.

Funds do not have to be transferred to the balance of a centralized exchange in advance. The user retains control over their private keys, while the swap is executed directly through a smart contract.

Many AMM platforms do not require conventional registration or standard identity verification. However, the applicable rules may depend on the specific interface, country, and jurisdiction.

Another feature of AMM projects is user participation in governance. Holders of special tokens may vote on changes to fees, the launch of new pools, the distribution of rewards, and the future development of the protocol.

Uniswap and Bancor were pioneers, but the market is now considerably broader.

Liquidity pools are used not only on decentralized exchanges. Lending services apply a similar principle: some users deposit assets, while others borrow them against collateral and pay interest.

At the same time, Aave, Morpho, and other lending platforms are more accurately classified as a separate category of DeFi protocols rather than as traditional automated market makers.

An automated market maker replaces the order book with a mathematical formula and replaces a professional liquidity provider with a pool of user-supplied assets.

Thanks to AMMs, decentralized exchanges can operate around the clock without manual management or the need to find a matching order for every transaction. Users gain fast access to asset swaps, while liquidity providers gain an opportunity to earn income from fees.

This seemingly simple idea has become one of the key technologies behind DeFi. It has transformed liquidity from a closed tool of the professional market into a mechanism accessible to millions of users.