> For the complete documentation index, see [llms.txt](https://funmarket.gitbook.io/funmarket/llms.txt). Markdown versions of documentation pages are available by appending `.md` to page URLs; this page is available as [Markdown](https://funmarket.gitbook.io/funmarket/bonding-curve-and-lmsr-explained.md).
# Bonding Curve & LMSR Explained
### Why FunMarket Uses a Bonding Curve
Traditional markets rely on order books to match buyers and sellers.
This approach requires constant liquidity and market makers.
FunMarket instead uses an automated market maker (AMM) based on a bonding curve model, allowing markets to function continuously without relying on counterparties.
This ensures:
* Always-available liquidity
* Transparent pricing
* Permissionless participation
* No centralized market maker
***
### What Is a Bonding Curve?
A bonding curve is an algorithmic pricing function.
Prices adjust automatically based on:
* The number of shares outstanding
* The distribution of shares across outcomes
* The sequence of trades executed
As demand for an outcome increases, its price increases.
As demand decreases or shifts to other outcomes, its price decreases.
Prices are state-dependent, not fixed.
***
### LMSR: Logarithmic Market Scoring Rule
FunMarket uses a variant of the Logarithmic Market Scoring Rule (LMSR).
LMSR is a well-known mechanism for prediction markets that:
* Supports continuous price discovery
* Provides bounded loss for the market
* Scales naturally to multi-outcome markets
Prices emerge from a mathematical function rather than manual odds setting.
***
### Multi-Outcome Market Pricing
In FunMarket, a single market may contain more than two outcomes.
Each outcome:
* Has its own price
* Competes with other outcomes for probability mass
All outcome prices are interdependent.
When users buy one outcome:
* That outcome’s price increases
* Other outcomes’ prices adjust downward
This ensures that the total probability space remains consistent across all outcomes.
***
### Price Is Not Probability
Prices on FunMarket represent market-relative values, not guaranteed probabilities.
Prices:
* Reflect current market sentiment
* Change dynamically with participation
* Do not imply correctness or certainty
A price of 70% does not mean an outcome will occur with 70% certainty.
Markets may be wrong.
***
### Liquidity Without an Order Book
Because pricing is handled algorithmically:
* Users do not need a counterparty to trade
* Orders are executed immediately against the curve
* Liquidity is always available, subject to price impact
However, large trades may experience:
* Slippage
* Increased price impact
* Less favorable execution
***
### Entry, Exit, and Price Impact
When entering or exiting a position:
* The execution price depends on current market state
* Larger trades move prices more significantly
* Early participants may benefit from lower prices
* Late participants may face higher prices
There is no guarantee that users can exit at a profit or at a desired price.
***
### Risk Considerations
Users should understand that:
* Prices can move rapidly
* Market sentiment may change unexpectedly
* Resolution outcomes may differ from expectations
* Smart contracts operate deterministically but are not risk-free
Bonding curves do not eliminate risk.
They redistribute liquidity and price discovery.
***
### Why This Model Matters
Using LMSR allows FunMarket to:
* Support permissionless market creation
* Enable multi-outcome predictions
* Avoid centralized liquidity providers
* Maintain transparent, on-chain pricing
This model aligns incentives without requiring a centralized “house.”
---
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