I believe that usually market makers will not make money by creating markets with initial funding and a reasonable fee (<2%). A regular bet will usually be a fraction of the initial funding since bigger amounts would shift the price significantly. However -they provide a public good since as long as a automated market maker is active it will incentivize people to report on the likelihood (by buying and selling shares).
So maybe “crowdfunding” will be a way to finance such market makers. There are a lot of topics with big public interest. Another option would be to even only allow those who participated in the crowdfunding to trade the market. In this case it is more a competition against the other participants in contrast to funding a public good.
I don’t see why market makers wouldn’t make money off of the trading fee. If they aren’t making money, they’ll increase the fees they charge. If the fees become too onerous to attract traders, wouldn’t it be just as bad to require that contribution up front as part of the market’s crowdfunding?
I think requiring traders to make a contribution to the initial funding of a market is equivalent to charging the same amount as fees. Perhaps this is my blind faith in markets talking, but it feels like letting market makers find the right price for their services is better than requiring liquidity donations or a fixed liquidity contribution to trade.
What you can see here is a initial state of chances 25% each. Usually people will trade when they disagree with the price. However - the trading size is limited because too big trades would move the market too much.
So lets assume a trader don’t want to move a market by more than 3% per trade. In this case that would be a trade of $13. (based on the initial funding of $415) Furthermore we have to assume that the market maker will loose his full initial funding since trading will be allowed beyond the resolution.
Now lets assume a fee of 1% (that is what serious sport betting exchanges take). That would be $13*1% = 13cent per trade for the market maker. So to break even about 3200 trades would be needed.
Super popular makers can make this easily but a lot of topics don’t. For those the crowd funding option makes total sense to me. All contribute in the common good of a) knowing the likelihood and b) having the option to make profitable trades against the MM.
(One side note: Augur wants to give half of the fees to the oracle. This would mean 6400 trades would be necessary to break even. Or to put it in different words: if the MM breaks even he pays the same amount to the oracle as the initial funding. This is ridiculously expensive for the MM for the simple services of bringing one fact to the block chain.)
It seems clear that there are many low volume markets where it will be hard for market makers to profit. The market maker will almost always lose the money they use to fund markets, so by funding a market, they’re betting that enough trades will occur to yield a profit.
Requiring traders to crowdfund the initial funding for a zero trading fee market removes that risk: it’s effectively paying the trading fees up front instead, and if the market doesn’t hit the crowdfunding goal, no one lost anything.
Makes sense. I was missing the part about the initial funding being an almost guaranteed total loss, so funding a market is risky.
One option could even be: only those who participated in the funding are allowed to trade. It would be like a “tournament”. All participants put money in upfront and than they can “fight” for it.
Current market makers’ incentives are the indeed the biggest problem I have with the current Augur’s model.
By funding a market, a market maker is basically speculating on its future trading activity. So it only makes sense to fund markets that will be active enough to generate positive ROI. It’s a huge risk to fund the market with e.g 100 BTC if the profit is uncertain. On the other hand - initial liquidity will be important for getting attention of traders. So a chicken and egg problem.
By introducing a crowdfunded market making model we can:
reduce the risk for individual market makers - allowing them to crowdfund the market by sharing the initial risk and future trading fee rewards.
create a promotional vehicle for upcoming markets - as the initial liquidity crowdfunding surfaces the hottest upcoming markets and generate interest from future traders - we basically have a ranking & discovery model for markets!
Love it! So each market would have 3 phases -
initial liquidity crowdfunding - investors speculate whether a market will be popular
actual trading - traders speculate on the market’s proposition
resolution - oracles decide or the market resolves itself
We can easily add this functionality in a seperate contract and we should offer users to start crowdfundings for markets as one option. Some changes will be needed to our current approach. There has to be the option to set initial odds, so the crowdfunded market cannot be exploited by a single trader. Another issue is that markets with low volume, which depend on crowdfundings will only be funded if investors take little risk (why should they waste their money?). The option to only allow trades within the group of investors seems like a good approach to compensate this risk.
For other non automated market makers (order book only), which we will probably use for our sport betting markets and which can generate huge amount of revenue crowdfunding won’t be needed.