Automated Market Maker (AMM)

Automated market makers are decentralized exchanges that use smart contracts to pool liquidity and then use the liquidity to quote prices for traders to swap assets across the exchange.

Prominent examples of AMMs include Uniswap, Balancer and Curve.

Instead of dedicated market makers typical to traditional exchanges. Anyone can be a liquidity provider for an AMM by depositing both assets represented in a liquidity pool at a predetermined ratio calculated by the exchange. 

This ratio is constantly updating to ensure the balance of assets remains stable for users to trade against.

The most common approach to calculating the ratio is a*b = c

a represents the value of Asset A, b denotes the value of Asset B, and c is a constant.

So prices automatically adjust as trades are made to ensure the ratio of a*b remains the same vs. the pre-determined constant of c.

Further Reading Automated Market Makers

DeFI Explained: Automated Market Makers