Ever tried to provide liquidity to a #DeFi protocol?
If not, you're missing out on some great yields on your #crypto.
In this post, we'll explain:
- How does a DEX / AMM work?
- What is a liquidity provider?
- Impermanent Loss / Tools
- Good LP opportunities right now 👇 🧶
If not, you're missing out on some great yields on your #crypto.
In this post, we'll explain:
- How does a DEX / AMM work?
- What is a liquidity provider?
- Impermanent Loss / Tools
- Good LP opportunities right now 👇 🧶
1/
Decentralized exchanges like Uniswap, Sushiswap, TerraSwap are called automated market makers (AMM).
A traditional order-book exchange (think NYSE) will match a buy order with a sell order to facilitate a trade.
A decentralized exchange or DEX works a bit differently
Decentralized exchanges like Uniswap, Sushiswap, TerraSwap are called automated market makers (AMM).
A traditional order-book exchange (think NYSE) will match a buy order with a sell order to facilitate a trade.
A decentralized exchange or DEX works a bit differently
2/
A DEX has 2 types of participants: the trader, and the liquidity provider.
The liquidity provider puts up an equal amount of both assets. (For example, $ETH and $USDC).
This "liquidity" provided allows traders to trade freely and automatically between the 2 assets.
A DEX has 2 types of participants: the trader, and the liquidity provider.
The liquidity provider puts up an equal amount of both assets. (For example, $ETH and $USDC).
This "liquidity" provided allows traders to trade freely and automatically between the 2 assets.
3/
The most common type of DEX uses a "constant-product" AMM. The basic formula behind these is:
token_a_balance * token_b_balance = k, where k is some constant.
The most common type of DEX uses a "constant-product" AMM. The basic formula behind these is:
token_a_balance * token_b_balance = k, where k is some constant.
4/ Here's how it works:
Let's say you provide $500 of $ETH & $500 of $USDC.
Someone now buys $50 of ETH using $50 of USDC. The pool would now have $450 of ETH and $550 of USDC.
So the pool automatically adjusts the price of the ETH-USDC pair so that there is $500-$500 again ⚖️
Let's say you provide $500 of $ETH & $500 of $USDC.
Someone now buys $50 of ETH using $50 of USDC. The pool would now have $450 of ETH and $550 of USDC.
So the pool automatically adjusts the price of the ETH-USDC pair so that there is $500-$500 again ⚖️
5/
This is a simplified explanation but the gist is that the price is automatically adjusted by the AMM.
As long as there is enough liquidity in the pool, this price adjustment is negligible and there is not much slippage.
This is a simplified explanation but the gist is that the price is automatically adjusted by the AMM.
As long as there is enough liquidity in the pool, this price adjustment is negligible and there is not much slippage.
6/ If the pool is too small or the transaction size is big, there will be "slippage".
This means that your trade's effective price is worse because the price is being driven up by your trade itself. 📈
This means that your trade's effective price is worse because the price is being driven up by your trade itself. 📈
7/ Now, you might be wondering if the price on the DEX can deviate from the price on a centralized exchange (CEX) since it adjusts automatically.
Yes, it can -- but usually this will only be for a short while till arbitragers come in and profit from the spread. 🤑
Yes, it can -- but usually this will only be for a short while till arbitragers come in and profit from the spread. 🤑
8/ For example:
- Suppose the $ETH - $USDC pair is trading at $3800 on UniSwap but $4000 on Coinbase
You could buy on UniSwap and Sell on Coinbase.
This would eventually lead to prices on the DEX and CEX converging.
- Suppose the $ETH - $USDC pair is trading at $3800 on UniSwap but $4000 on Coinbase
You could buy on UniSwap and Sell on Coinbase.
This would eventually lead to prices on the DEX and CEX converging.
9/ Here are the pros of AMMs 👍🏾
- Easy way to add liquidity to markets - especially useful for newer projects
- No need to wait for a counterparty for your trades
- Decentralized + self-executing contracts = no middlemen
- Smart contracts can be plugged into other protocols
- Easy way to add liquidity to markets - especially useful for newer projects
- No need to wait for a counterparty for your trades
- Decentralized + self-executing contracts = no middlemen
- Smart contracts can be plugged into other protocols
10/ Here are the cons of AMMs 👎🏾
- High slippage if pool size is small
- Smart contract exploit risk
- On-chain trading increases network congestion (UniSwap is one of the biggest gas hogs on $ETH)
- There is a risk of Impermanent Loss (see link)
blog.liquid.com/impermanent-lo…
- High slippage if pool size is small
- Smart contract exploit risk
- On-chain trading increases network congestion (UniSwap is one of the biggest gas hogs on $ETH)
- There is a risk of Impermanent Loss (see link)
blog.liquid.com/impermanent-lo…
11/ So, what are some good liquidity pool strategies?
(Low-risk) If you're bullish on a coin, LP for a stable pair:
- $LUNA/bLUNA (8% APR on @terraswap_io)
- $FTM / $TOMB (206% APR on @tombfinance + farming rewards)
- $USDC/$DAI/$fUSDT (22% APY on @beefyfinance $FTM chain)
(Low-risk) If you're bullish on a coin, LP for a stable pair:
- $LUNA/bLUNA (8% APR on @terraswap_io)
- $FTM / $TOMB (206% APR on @tombfinance + farming rewards)
- $USDC/$DAI/$fUSDT (22% APY on @beefyfinance $FTM chain)
12/ Here's a post explaining the $FTM - $TOMB strategy:
https://twitter.com/shivsakhuja/status/1472320508460863488
13/ You can also stake your LP tokens to earn even more yield.
Platforms like @beefyfinance are great for this because they also autocompound the yield to turn APR into APY.
Platforms like @beefyfinance are great for this because they also autocompound the yield to turn APR into APY.
https://twitter.com/shivsakhuja/status/1468527329559265280
14/
As an LP, impermanent loss risk is high if one coin moves a lot relative to the other coin in the pair.
If you think 2 coins will move together (ex: $MATIC & $ETH), then you can provide liquidity for the ETH-MATIC pair without worrying too much about the Impermanent Loss.
As an LP, impermanent loss risk is high if one coin moves a lot relative to the other coin in the pair.
If you think 2 coins will move together (ex: $MATIC & $ETH), then you can provide liquidity for the ETH-MATIC pair without worrying too much about the Impermanent Loss.
15/ You can also think of it as an automatic profit taking strategy:
- When $MATIC goes up relative to ETH, you're taking MATIC profits into ETH
- When $ETH goes up relative to MATIC, you're taking ETH profits into MATIC
Automatically balancing your ETH and MATIC positions.
- When $MATIC goes up relative to ETH, you're taking MATIC profits into ETH
- When $ETH goes up relative to MATIC, you're taking ETH profits into MATIC
Automatically balancing your ETH and MATIC positions.
17/ Also check out @ApyVision - they have a great tool to help figure out your LP performance and find LPs with good yield.
@coinhall_org is another good place to check LP yields on the Terra ecosystem.
https://twitter.com/shivsakhuja/status/1466350152600354816?s=20
@coinhall_org is another good place to check LP yields on the Terra ecosystem.
https://twitter.com/shivsakhuja/status/1466350152600354816
Contributor: @shivsakhuja
Like / RT / Follow for threads about #crypto and #DeFi nearly daily.
Let us know what topics you're interested in learning about next!
#WAGMI
Like / RT / Follow for threads about #crypto and #DeFi nearly daily.
Let us know what topics you're interested in learning about next!
#WAGMI
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