I have been looking into the Osmosis crypto exchange and its OSMO coin over the past week. I couldn’t believe how simple it was to understand. I’ll tell you what it is and the main things you need to know here. That way you don’t have to waste time listening to hours of podcasts and wordy YouTube videos.
I’ve broken down all you need to know into 7 parts.
After this, you will be an Osmosis pro.
1/7. What is Osmosis crypto?
Osmosis is like Uniswap but cross-chain. In crypto speak it is a DEX using an AMM and entices liquidity providers with its OSMO crypto token. Osmosis is special because it uses the Tendermint consensus mechanism and Cosmos SDK (What is Cosmos crypto).
I’ll tell you why that is important in a bit.
BTW, if that paragraph was a blur then here are a few concepts you need to conquer first.
Moving on.
Most DEXs operate within one ecosystem. Osmosis Crypto wants to change this.
Consider Uniswap. Uniswap is the largest DeFi exchange, yet you can only trade ERC-20 tokens on it.
Uniswap’s arch nemesis, SushiSwap, has taken a different approach.
They try to replicate SushiSwap on as many layer 1s as possible.
This results in many versions of SushiSwap. Each version is unable to talk to the other. This fragments liquidity.
Osmosis aims to be a single DEX that can operate across all layer 1s. The terminology they use is “interchain” rather than “cross-chain”. Potato, patato…
Anyways.
Their main goal is to become the Coinbase of DeFi. For those who have read my articles on Kava and THORChain, these words might sound familiar.
It is not a coincidence.
Most DEXs want to bring DeFi into the mainstream.
2/7. How Osmosis Crypto is vertically integrated and why that matters
Because Osmosis sits on its own blockchain it has a lot more flexibility.
Compare Osmosis to SushiSwap.
Sushi is a bunch of smart contracts built on top of each blockchain: Solana, Binance, Ethereum, etc.
In business lingo, we say their expansion is horizontal. Osmosis chose vertical integration instead.
The blockchain, the app layer, and the Kepler wallet are all interconnected.
Let me give an example of how vertical integration benefits Osmosis and its OSMO crypto coin:
On Ethereum, to perform transactions you need ETH to pay for gas fees. On Osmosis you don’t need OSMO.
If you are buying a token, say in USDT, then you can pay gas fees in USDT.
Vertical integration means Osmosis can convert your USDT to OSMO in the background.
This way it can offer a more streamlined user experience.
3/7. Osmosis crypto’s superpower: Superfluid staking
Osmosis Labs, the team that built Osmosis, are very proud of what they call superfluid staking.
Let me walk you through what this funky-sounding thing is.
Osmosis is a Proof-of-Stake blockchain.
If you own the native token, OSMO, you can delegate it to a validator and get staking rewards.
But Osmosis’s vertical integration means it can do something else.
As a liquidity provider to Osmosis, you get a token representing your share of the liquidity pool. This is common amongst DEXs.
This receipt shows you have some OSMO crypto tokens plus some other tokens in the pool.
What if you could stake that OSMO while it idles time away in the pool drinking piña coladas?
With superfluid staking, you can.
To start you can earn a yield on your OSMO by LPing it.
Then, you can earn an extra yield by taking that LP’ed token and “bonding it” to earn a staking yield on top.
Pretty cool. So far this is unique to Osmosis.
Often you see protocols do the opposite. They tokenize the staked asset. Stakers can then use the tokenized stake as a derivative (think Lido).
But this, the Osmosis team argues, undermines the whole Proof-of-Stake process.
With Osmosis crypto you can do the reverse and stake the DeFi assets instead.
This works because the Proof-of-Stake module is aware of what is going on in the app layer.
The first pool to offer superfluid staking is the OSMO-ATOM pool.
They will add more in the future.
From superfluid to interfluid staking
Things can get a little loco when you are dealing with crypto. We saw how you can stake the OSMO that is in a liquidity pool.
Well, what about the other token? Your LP token represents your underlying OSMO token AND that other token.
What if there was a way to stake that other token so that it helps secure its respective blockchain?
This is what interfluid staking does. Interfluid staking is staking as a service.
Assume that the other token is AKT. AKT is the native token of Akash, another blockchain on the Cosmos ecosystem.
And say that my liquidity pool contains 5 OSMO and 10 AKT.
Osmosis can talk to Akash via Cosmo’s Inter-Blockcain Communication (IBC) protocol.
It can say, “Hey dude, there is 10 AKT here on Osmosis. Do you want to use it on Akash’s PoS mechanism? “.
In order for this to work Akash needs to agree to replace their staking module with the one built by Osmosis.
This feature will ship by the end of 2022. I guess we’ll find out if it works.
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4/7. Osmosis crypto’s next weapon: Threshold encryption
Most blockchain users are (or should be) concerned about MEV and front-running.
Man! What the fungus is MEV and Front-Running?
When validators process blocks they can see the orders. This is very useful information.
If you tell me, “Hey I am going to buy a massive amount of x token” then I can go and buy some before you.
After your purchase moves the price up I can sell at a profit.
This type of behavior is known as front-running. The value extracted by the front-runner is called Maximal Extractable Value (MEV).
If you want to geek out completely check out this explanation of MEV.
Osmosis plans to tackle front-running by encrypting the data. This way no one will be able to see users’ intent. This will prevent value extraction from happening.
5/7. How Osmosis Crypto will compete against Coinbase: CosmWasm
Yes, the terminology is baffling but don’t get scared. This part is easy to understand
CosmWasm is a smart contracting platform that you can hook up to the Cosmos SDK. It refers to the way Cosmos (Cosm) uses WebAssembly (Wasm), a coding standard that most developers are familiar with.
Osmosis want to use CosmWasm to expand its product suite.
Let’s pause for a moment.
Consider centralized exchanges.
What about them?
They have a suite of products packaged into a seamless user experience.
First, there is an easy way to on-ramp your fiat currency and convert it into crypto.
Then, there are all sorts of goodies: spot trading, margin trading, perps, and an NFT market.
Next, there are those cool graphs you can use to check prices obsessively.
Many of you use them as custodians for your crypto assets (you know who you are).
Large exchanges like FTX have very efficient liquidation and cross-margining systems.
Finally, centralized exchanges are a launchpad for new tokens.
Osmosis wants to offer the same experience for DeFi.
They plan to do this by allowing others to build these features.
Mind you Osmosis is not trying to be a generalized smart contracting platform.
Rather than 1000s of mediocre products they plan to narrow their focus on 10-20 good ones.
This means new products will only be able to launch after governance approves them.
Plans for a lending protocol (Isotonic), ETF protocol, perps, and synths are all in the pipeline.
They are also working with a team of developers to offer a fiat onramp onto Osmosis.
6/7. How Osmosis crypto started off
Osmosis Foundation is co-founded by Josh Lee and Sunny Aggarwal.
Sunny is who I come across on most podcasts. He first became interested in crypto when he was a student at UC Berkley. There he set up a Bitcoin club and taught a course on Bitcoin.
After interning at Consensus he became interested in Proof-of-Stake.
He ended up joining the Cosmos team and has worked on Tendermint, IBC, and Cosmos SDK. The works!
When DeFi started to take off he asked himself “How do we bring this stuff onto Cosmos”.
What started off as an MVP at a hackathon in January 2021 ended up shipping as a product by June 2021.
At the time it was still a radical move. Most apps were still focused on one blockchain.
OSMO crypto tokens fairdrop
To bootstrap liquidity, Osmosis airdropped 50Mn OSMO tokens to ATOM holders.
They called it a “quadratic fairdrop”.
The amount of OSMO crypto tokens distributed was proportional to the square root of the ATOM that users held.
This way it was proportional to the amount of ATOM you held but scaled down.
They knew that most liquidity mining rewards go to whales and wanted to nudge in favor of smaller users.
To claim the airdrop users needed to do a series of activities: Swapping, Staking, LPing, and voting.
After completing each of these steps they got 25% of the due amount.
Anyone who did not claim their OSMO crypto tokens within 6 months would have their OSMO go into a community pool.
Token distribution
The total supply of OSMO crypto tokens is 1Bn.
At genesis Osmosis issued 100Mn: 50Mn as an airdrop and 50Mn as a foundation reserve.
Osmosis issued 300Mn in its first year and each year after it will reduce issuance by a third.
So that means 200Mn in year 2, 133Mn in year 3, and so on.
If you do the math it works out to 900Mn + 100Mn issuance at genesis = max supply of 1Bn.
7/7. The secret to Osmosis crypto going interchain: Bridges
What is the killer feature that centralized exchanges have that DEXs do not?
It’s that they allow you to trade between layer 1 tokens.
To offer the same, DEXs need to think about bridges.
A bridge allows you to lock the token on one chain and then mint its wrapped representation on another.
This is why you might see different prefixes to coins on different ecosystems. You might have aBTC, BTCB, wBTC, etc.
Osmosis wants to avoid having too many prefixes.
This would result in a poor user experience and fragmented liquidity.
So they decided to choose one canonical bridge.
They did this through their governance mechanism.
How governance works on Osmosis crypto
On Osmosis it is usually the validators who are voting.
When you delegate your OSMO crypto to a validator you are also delegating your voting power.
This is the default behavior but there is an override if you want to take part in voting yourself.
In contrast to protocols built on Ethereum, on Osmosis everything executes on-chain.
There are three categories you can vote on
- Parameter changes e.g. what incentives to offer for each liquidity pool
- Software upgrade proposals. Usually pretty straightforward. All nodes agree to upgrade to the latest software version
- Text proposals such as the decision about which bridge to use.
Osmosis had a high voter turnout. 55K votes were cast which means that a lot of users were voting. The four submissions were
- Wormhole
- Nomad
- Gravity
- Axelar
Osmosis Labs conducted a 3-hour town hall to interview providers and answer questions.
The voting system only accepts binary yes or no votes. So an approval voting system was set up, one for each bridge.
Voters could vote for more than one bridge. In the end, the bridge with the highest amount of votes was Axelar.
So why’d they choose Axelar?
From the podcasts I listened to it sounds like Axelar were the most responsive.
Axelar is also built on the Cosmos SDK. So all they really need to do is make one bridge and then Osmosis can talk to Axelar via IBC.
Final question, is Osmosis like THORChain?
Not exactly. THORChain does not like wrapped assets. To address this they build the bridges themselves. This is more cumbersome and one of their bridges got hacked. Osmosis prefers to use IBC for Cosmos stuff.
Beyond Cosmos, they prefer outsourcing the work to entities that specialize in bridges.
Osmosis also has no qualms about using wrapped assets, as long as they are not too many.
Summarizing Osmosis crypto
Osmosis is built on Cosmos. It can already talk to other blockchains on the Cosmos ecosystem and is on its way to talking to other layer 1s.
Its vertical integration means it can offer a superior DeFi user experience. One that could one day bring it on par with centralized exchanges.
While it currently ranks 21st in TVL, the fact that it is interchain could mean that it propels itself to the top.
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