WHAT IS MAXIMAL EXTRACTABLE VALUE (MEV)?

Maximal Extractable Value (MEV) is a concept that has attracted significant attention in the world of blockchain and decentralized finance (DeFi) recently.

MEV refers to the maximum amount of value that can be extracted from a specific DeFi protocol or smart contract by a user or group of users. MEV has become an important factor in determining the potential profitability of DeFi strategies and has led to the emergence of new tools and techniques to maximize returns.

The role of MEV in the cryptocurrency ecosystem

MEV plays a critical role in the cryptocurrency ecosystem, particularly in the context of Ethereum.

MEV represents the additional value that validators—those who create new blocks on the network—can acquire by manipulating the order of transactions within the blocks they create. This manipulation, often referred to as "front-running," can provide miners with an extra source of profit beyond the standard block rewards and gas fees they collect for their work. Often, miners reorder transactions on behalf of a third party and are typically "bribed" with a large amount of revenue for doing so.

MEV is a byproduct of the decentralized nature of blockchain technology. In traditional financial markets, transaction orders are strictly enforced to prevent front-running. However, in the decentralized world of cryptocurrencies, miners are free to sequence transactions as they see fit. This freedom, while integral to the decentralized ethos of blockchain, can lead to situations where miners prioritize transactions that offer them the most MEV, potentially at the expense of other network participants.

When the stakes are high enough, MEV can even incentivize miners to create blockchain forks, potentially disrupting future transactions and compromising the security of the consensus layer.

Common MEV strategies

MEV appears most commonly in trading on decentralized exchanges (DEXs). Arbitrage opportunities, where a trader profits from price discrepancies between different markets, are built into the design of DEXs. Miners, aware of these opportunities, can sequence their blocks in such a way as to exploit these arbitrage opportunities before other traders, effectively "front-running" them.

Another common tactic is back-running, which occurs when a miner places a sell order after noticing a large buy order. This technique allows the miner to sell into the buying pressure, thereby increasing their profits.

Sandwich is another distinct technique—miners place a sell order right after a transaction that affects the market price and a buy order right before it. This ensures that the miner benefits from price fluctuations caused by their own transactions.

Miners also use various tools to aid in MEV extraction. For example, flash loans allow miners to borrow, use, and repay funds within the same transaction. This enables them to execute profitable trades without requiring upfront capital.

Jaredfromsubway.eth is the name associated with one of the most well-known MEV bots in the Ethereum space. This bot has made millions of dollars in just a few months by performing common MEV strategies.

While MEV is often seen as a flaw in the system, it is also an incentive for traders to provide liquidity to the network. It is a natural byproduct of a decentralized network and is somewhat difficult to avoid.