Overlay Protocol is a decentralized platform built on Arbitrum that allows users to build positions on markets or data streams without the need for traditional counterparties like liquidity providers or market makers. The protocol offers markets based on any non-manipulable and non-predictable numerical data feed.

Initially, Overlay's token and markets were created on Ethereum. However, following a governance proposal, the community decided to transition to becoming a native Arbitrum protocol.

For an in-depth understanding of Overlay Protocol, please refer to our white paper here.

Overlay aims to offer a diverse range of markets based on price data feeds and non-manipulable, non-predictable data feeds. These include:

• Non-traditional crypto markets: Markets allowing users to build positions on hash rate, gas, BTC difficulty, NFT floors, social tokens, yield rates, and more.

• Non-traditional markets: E-sports and sports, sneaker prices, scalar social-political markets, nature and science markets, among others.

Users build positions against the entire protocol or, essentially, against every other OV holder simultaneously. This approach allows Overlay markets to maintain deep liquidity without relying on liquidity providers or traditional swap-based counterparties. For more information on how the protocol mitigates the potential OV inflation risk, please refer to this write-up.

Overlay markets' pricing is not dynamic in the traditional sense; it is based on values intermittently fetched from oracles. These oracle values are then adjusted by certain mechanisms built into the protocol. Overlay can onboard nearly any oracle, provided the oracle feed is non-manipulable and non-predictable. For more details, see our article on Pricing on Overlay.

Users are required to lock OV as collateral to open a position in an Overlay market. PnL (Profit and Loss) is settled in OV. The protocol mints OV and sends it to the user as PnL if a position is in profit. Conversely, if the position is at a loss, locked OV is burned to the extent of the loss.

OV is the native token of Overlay Protocol, an ERC-20 token on the Arbitrum Mainnet. It serves a dual purpose: facilitating trading and enabling participation in DAO governance. OV acts as liquidity and governance in the Overlay system, with all PnL for users denominated in OV. This creates a flywheel effect, feeding utility, liquidity, and community incentives back into the system. For more on OV, please refer to our section on OV here.

Positions on Overlay Protocol resemble perpetual futures contracts (perps), which have no expiration date or actual settlement. However, contracts offered on Overlay markets have several key differences from conventional perps. For more details, please refer to our section on this.

Perps are popular derivative contracts in crypto markets, allowing users to take long or short positions on underlying assets without owning them. These contracts lack an expiry date, continuously rolling over until a user decides to close their position.

Overlay uses a combination of oracle-based feeds and native mechanisms to determine the data point of a feed on which users can build positions. Traditional crypto exchanges like Binance use a centralized limit order book (CLOB) system to determine price, based on matching buy and sell orders. Some on-chain perp protocols like Perp Protocol and GMX also use oracle-based feeds for pricing.

Overlay offers tradable markets without traditional counterparties. The protocol dynamically mints/burns OV when a position is closed:

• If a positive delta is realized, the protocol mints OV according to the delta difference against the user’s initial collateral.

• If a negative delta is realized, a percentage of the collateral put up by the user is burnt.

To learn more about the risks and how Overlay addresses them, please refer to the Summary of Risks.

Overlay v1 does not support setting bids and asks via limit orders. Currently, only market orders are executable on Overlay markets. Traditional CLOB-based and LP-based exchanges generally support limit orders.

Funding rates are calculated based on the imbalance in Open Interest, rather than the imbalance between spot and future prices. These rates incentivize users to correct imbalances between longs and shorts.

Users lock OV as collateral to open a position in an Overlay market, and PnL is also settled in OV. The protocol mints OV for positive deltas and burns OV for negative deltas, corresponding to the extent of the loss.

Overlay Protocol represents a significant innovation in the decentralized finance space, offering users unique market opportunities and deep liquidity without traditional counterparties. For a comprehensive understanding, please refer to the provided resources and detailed articles.