What is Raydium? Liquidity, AMMs, CLMMs, and More - Explained

Raydium is one of Solana’s most important DEXs. It’s a place where you can swap tokens, provide liquidity, trade futures (aka Perpetuals), stake RAY tokens to earn yields, and even bridge to other chains.

And, whether you love or hate memecoins, Raydium has also been an important part of Solana’s journey in becoming the go-to chain for these high-risk and sometimes high-reward coins.

But more about this later.

First, let’s find out how the Raydium DEX actually works.

(If you already know the basics of AMMs, then feel free to skip ahead, where we’ll be exploring advanced topics like CLMMs and who owns the often suspected Raydium Liquidity Pool V4 wallet.)

(Hint: it's not a scammer, it's a contract!)

What’s an Order Book? And How is Trading Done on a CEX?

To really understand the benefits of DEXs, we need to explore how CEXs work.

You’ve almost certainly traded on a CEX or centralized exchange before, such as Binance, Kraken, Bybit, or Coinbase. And you may have noticed the order book - where buyers and sellers show the price at which they are willing to trade.

Here’s Binance’s order book for Bitcoin today:

This image shows us that, at time of writing, $103,607.55 is the price that Bitcoin is changing hands.

The order book allows people to trade with a buyer or seller who matches their desired price. So, looking at the picture, if you had some Bitcoin to sell, and you wanted to sell it just 55c below the market price at $103,607, you’d know that you’d instantly find a buyer.

On the other hand, if you wanted to sell your BTC for a higher price than that, say, $103,608, you can see that you would have to wait until all the people selling it for less than you have sold their Bitcoins.

Order books can be a great way to match buyers and sellers as they provide a quick way to swap.

But there is a downside to the order book system.

What if you are trading a new asset without much liquidity? (In other words, without many buyers and sellers). You might have to settle for a very different price than what you wanted.

Enter AMMs - or Automated Market Makers. And the decentralized web.

What’s An AMM? And How Does It Work on Raydium?

AMMs are perfect for decentralized protocols and new tokens, where there is often less liquidity (eg, there’s less money on a particular blockchain and individual DEX, than in Binance).

Instead of needing to find a buyer or seller for your crypto who will match your price, AMMs work differently. They are automatically managed liquidity pools that allow you to trade, no matter who is selling or buying at the time. They use mathematical formulas and smart contracts to determine the price of the asset.

When you swap, you don’t have to think about this.

If you go to Raydium right now, you’ll see this simple and clean interface:

One of the great things about the DEX is that the Raydium routing engine can perform a swap through several pools to find the best execution and limit slippage, meaning better prices for users.

However, for the curious, you might be wondering, how is this all powered? And the answer is, in part, Liquidity Pools.

What is a Liquidity Pool? And How do Raydium Liquidity Pools Work?

You can think of a liquidity pool as a big pot of two different cryptos, such as Raydium and Solana (RAY and SOL). These pots allow people to quickly exchange one crypto for another.

The liquidity comes from traders who deposit cryptos in return for a reward. As a liquidity provider, you earn a percentage of every trade. And you are sometimes offered another reward by the owner of the less liquid token, as an extra incentive.

Sounds great, right?

And it is, especially if you’re a trader. Because it means you can trade with low slippage (eg, you get a fair and accurate price), even when there isn’t that much liquidity.

However, there are downsides.

If a pair is low on liquidity, it means traders can’t cash out of a large position without causing the price to crash. Or if a pair is really low, they can’t cash out at all.

Consider the PEPE trader who turned $250 into $1M in just a few days, but couldn’t cash out, because there wasn’t enough liquidity.

And, particularly with early models of AMMs, called CPMMs (Constant Product Market Makers), there’s another downside, this time for the liquidity providers. They face the issue of impermanent loss (IL).

What’s Impermanent Loss and How Does it Happen?

Impermanent loss happens when you provide two assets, such as tokens RAY and USDC, but the price of one asset changes dramatically. Let’s say that Raydium doubles in price tomorrow. The CPMM version of an AMM will start to sell your more valuable token (RAY) to buy the cheaper one (USDC). This ensures the pool always contains a 50:50 split of assets.

And this leaves you with less money than you provided, which is IL or Impermanent Loss.

It’s called ‘impermanent’ because, in theory, the price of the token RAY could go back to what it was when you initially deposited. Then you could remove your liquidity at the same price you entered.

But don’t let the name fool you! Because if RAY never goes back to the original price, or you withdraw your money before it does, the loss is, in fact, very permanent.

So, What’s the Solution to Bring More Liquidity On Chain? Enter CLMMs

Initially, Solana used a dual system that used both AMMs and Order books, with a protocol called Serum - later forked and rebranded to OpenBook. OpenBook/Serum shared liquidity across protocols on Solana, helping to improve speeds and increase liquidity.

But since then, a new and better way of managing AMMs has emerged - Concentrated Liquidity Pools or CLMMs (aka Concentrated Liquidity Market Makers).

These were invented by one of crypto’s most famous DEXs - Uniswap. Uniswap’s v3 CLMM pools allow liquidity providers to have a lot more control over their liquidity. They can set ranges of where they want to provide liquidity, which can help reduce impermanent loss and therefore, encourage more liquidity providers.

Solana has now retired OpenBook/Serum, in favor of CLMMs, aka v3+ liquidity pools.

Why does this CLMM upgrade matter?

As well as offering a chance to reduce impermanent loss, CLMMs make launching a coin or token much easier.

This is good for both traders and token creators.

Previously, token creators on Raydium would need to pay around 2 SOL just to open a pool. And figure out how to use the OpenBook protocol. Now, there’s no need to learn code for OpenBook, no fees to open a CLMM pool, and just 0.15 SOL to open a CPMM pool.

This has opened the doors for many more people to create tokens on Solana.

Whether you love it or hate it, you’ve probably heard of Pump.fun, the no-code memecoin deployer that allows people to create coins with just a few clicks.

And not only is it no code, but thanks to a clever bonding curve system, where the first buyers become the liquidity, you aren’t required to put up money to start a coin. (Normally, you’d want a bare minimum of around $5k to fund a liquidity pool).

If Pump.fun coins reach a market cap of $69k, they ‘graduate’ to Raydium, where they can benefit from Raydium’s Concentrated Liquidity Market Makers, to increase their liquidity.

More recently, the Believe.app protocol has taken things to the next level. It allows anyone to tokenize a Tweet that represents a business, or even an idea, and then make that into a coin. If a Believe coin reaches a ‘mere’ $1M, it graduates to Raydium.

If you want to tokenize a tweet, all you have to do is tag Believe’s coin @launchpad, and the Believe team will consider it for their app.

Neither of these things would have been possible without Solana’s deep liquidity, thanks to CLMMs.

Of course, not everyone sees these protocols as a good thing.

Why? In the case of Pump.fun, very few coins actually graduate to Raydium. And most are manipulated by bots while on Pump.fun, meaning only a select few traders benefit.

And while the Believe.app is using a narrative of ‘Internet Capital Markets’ and positioning themselves as a rejection of VCs, and something like a Kickstarter for crypto, in reality, most of these coins are devoid of real meaning. And will likely be worthless before long.

Especially as Believe tokens don’t actually represent equity or any share in the idea, but rather are like a kind of ‘fan token’.

This can be bad for more serious projects, and for blockchain tech in general. This is because people end up spending all their money on the new shiny thing. Meaning there is no money left to invest in coins that add real value to crypto.

However, for better and worse, it can’t be denied that the CPMM and bonding curve systems have democratized access to launching a coin. And democratized access to finance is, supposedly, a major ethos of web3.

Previously, you needed a dev team, or knowledge of smart contracts and coding, and a lot of money just to launch a coin. Now, anyone can do it.

And there’s more. CLMM pools are fungible, which means they can be divided and swapped for another asset. This means users can stake their LP tokens and receive even more yield!

Now let’s go down a little rabbit hole and ask a question that has baffled many.

What’s the ‘Raydium Authority v4 Wallet’?

Sometimes, people who are tracking memecoins have noticed that a lot of scam and rug pull coins seem to be coming from this wallet address.But in reality, this Raydium Authority v4 ‘wallet’ is actually the smart contract address of the liquidity pair pool used to create new coins. So both good and bad can come from this address; it's simply the way that people launch coins on Raydium.

V4, I hear you ask? I thought we were on Version 3!?

Good question! While the CLMM type of Liquidity Pool is part of v3 on Uniswap, on Raydium, it was released in v4.

Here’s a summary of the changes in Raydium between v1 to v4:

• v1 - Remember Serum, aka OpenBook? That was part of the v1 pools.
• v2 kept Serum and focused on UI/UX, incentives, and launchpad tools, making it easier to trade brand new coins or IDOs.
• v3 was mostly about internal upgrades and tweaks to liquidity and rewards programs, and optimizing gas usage. V3 Raydium pools were still using Serum/OpenBook.
• v4 is the CLMM standard we’ve been discussing here, which no longer uses OpenBook.

Fun fact! Serum represented another issue for Solana (outside of liquidity efficiency). This is because after the fall of FTX, Alameda Research still had the private keys of Serum. So the community got together to make a fork of Serum, which is called OpenBook.

Is there a downside to using Raydium’s v4 CLMMs?

If you’re a trader, then no, this is the cheapest and best way for you to swap tokens.

But if you are a liquidity provider, there is a difference. While old 50/50 CPMM pools are more risky in terms of impermanent loss (IL), they are more of a ‘set it and forget it’ type of arrangement.

Raydium’s v4 pools require you to choose a range, and the price of assets usually will keep changing. (Unless you are only providing stablecoins.) This means that while CLMM pools can be more profitable, LPers need to be regularly checking and assessing their ranges and rebalancing their positions.

If you set and forget it, you might find that you experience more IL and receive lower fees than the original Raydium v1-v3 pools.

But if done well, you should receive higher fees. Some people say that CLMM pools are like CPMM pools on steroids!

Want to learn more about Solana's ecosystem? Visit our DEXs page to discover other decentralized exchanges on Solana, explore our Raydium page to see how it fits into the broader network, or browse the site to learn about other exciting projects and protocols.