IMPERMANENT LOSS - Understanding the Basics

in Project HOPElast month (edited)

Loss
Source

If you have been around DEFI, this term would have come up at different points of your interaction with the various decentralised apps.

To me, the image above explains impermanent loss as the factor that keeps you a step away and below from your money. It is the factor that brings in the virtue of long term commitment which can give crazy rewards if one can exercise patience.

Coinmarketcap describes impermanent loss as the temporary loss of funds occasionally experienced by liquidity providers because of volatility in a trading pair.

DeFi protocols like cubdefi, 1inch, or PancakeSwap have seen an explosion of volume and liquidity. These liquidity protocols enable essentially anyone with funds to become a market maker and earn trading fees. This provides anyone a chance to earn some passive income.

Lots of liquidity protocols offer varying APR and the higher the APR , the more the short term.

CUB POOLS

cub Apr.PNG

CAKE POOLS

pancake apr.PNG

HOW DOES IMPERMANENT LOSS HAPPEN?

Impermanent loss happens when you provide liquidity to a liquidity pool, and the price of your deposited assets changes compared to when you deposited them. The bigger this change is, the more you are exposed to impermanent loss.

HOW CAN I AVOID IMPERMANENT LOSS ?

Losses have always been part of the investment process and the impermanent loss being temporary means the investor need to be patient enough to wait out the loss period. The wait can range from days to years . Also another escape route is providing liquidity to stable coin pools lik BUSD-USDC, USDT-BUSD ,etc Thes stable coin pools don't have very high A.P.R so they might no really be attractive.

Closing thoughts

Impermanent loss is one of the fundamental concepts that anyone who wants to provide liquidity to AMMs should understand. In short, if the price of the deposited assets changes since the deposit, the LP may be exposed to impermanent loss. Loss is also a concept that should be understood and appreciated by all investors. This is one of the keys to success in the Trading and investment world.

REFERENCES

  1. Coinmarketcap.com
  2. academy.binance.com

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