What is an automated market maker (AMM)?

An automated market maker (AMM) prices swaps using contract rules and the reserves of a liquidity pool, rather than matching each trade against a resting buy or sell order. Assets already committed to the pool provide the other side of the exchange.

In the simple Uniswap v2 model, the product of two reserves underpins pricing. A swap reduces one reserve and increases the other, changing the price for subsequent trades. Not every AMM follows the same formula: stable-asset pools and concentrated liquidity can use different mechanics. Automation does not mean that the quote always matches external markets or that trading is risk-free.

Example

Assume a hypothetical pool charges no fees and holds 100 units of token A and 10,000 units of token B. Their constant product is 1,000,000. Buying 10 A leaves 90 A in the pool. Maintaining the product requires a B reserve of 1,000,000 / 90 = 11,111.11, so the trader supplies approximately 1,111.11 B. The average execution price is 111.11 B per A.

The starting reserve ratio was 100 B per A. That was not a fixed quote for buying all 10 A: the trade changed the reserves. Price impact explains the difference. A real transaction must account for fees, rounding and the particular protocol’s pricing rules. The example is not a universal formula for every pool.

Supplying capital involves decisions beyond understanding the pricing rule. Our liquidity provision guide connects those decisions to price ranges, fees and withdrawal conditions.