A game-changing initiative is here for liquidity providers on the TON Blockchain! We’re talking about a new feature that aims to cushion the blow from impermanent loss—what a fantastic addition to the DeFi landscape!
UNDERSTANDING IMPERMANENT LOSS: THE NITTY-GRITTY
Impermanent loss, simply put, is the reduction in the value of tokens when the price shifts from the time of deposit. That momentary disparity becomes a real loss when liquidity is withdrawn. The good news is that if prices return to their original levels, that loss can be erased!
WHAT IS IMPERMANENT LOSS PROTECTION?
For anyone not familiar, impermanent loss happens when the price of tokens in a liquidity pool fluctuates, potentially leading to a loss for liquidity providers. This new feature strives to reduce some of that risk, enhancing an already exciting liquidity provision experience.
Calculating Impermanent Loss
The calculation of impermanent loss depends on the degree of price divergence between the two tokens. If the price of one token increases relative to the other, the liquidity pool automatically rebalances the quantities of each token to maintain the constant product formula.
The formula for calculating impermanent loss (IL) in constant product pool is:
Where:
P0 is the initial price ratio between the two tokens.
P1 is the new price ratio after divergence.
There are impermanent loss calculators which are special tools designed to estimate the potential losses a user might face when providing liquidity to a particular pool. These calculators consider various factors, including the initial prices of the assets, the composition of the pool, and changes in prices over time.
FACTORS AFFECTING IMPERMANENT LOSS
Several factors influence the extent of impermanent loss experienced by an LP:
Price Volatility: Higher volatility in the prices of the tokens within a pool leads to greater impermanent loss. Stablecoin pairs generally exhibit lower impermanent loss compared to more volatile assets.
Liquidity Position Duration: The longer an LP remains in a pool, the higher the probability of experiencing price divergence and, hence, impermanent loss. However, this can be offset by the fees earned over time.
Fee Structure: Fees earned from trades in the pool can mitigate or even outweigh impermanent loss. High-volume pools or those with lucrative fee structures can provide enough earnings to compensate for potential losses.
Type of Pool: AMMs employ various algorithms for liquidity and pricing management. For example, constant product formula can lead to significant impermanent loss in volatile markets. Pools with customizable weights, such as Weighted Pool, mean that the pool doesn’t have to hold a 50/50 ratio of assets. This can mitigate the effects of impermanent loss to some extent if properly set. Stablecoin pools such as StableSwap and Wstableswap can reduce the impermanent loss even further because they consist of stable assets with minimal price divergence.
STRATEGIES TO MITIGATE IMPERMANENT LOSS
Although impermanent loss is an inherent risk for LPs in DeFi, several strategies can help mitigate its impact:
Selecting Low-Volatility Pairs: Providing liquidity for pairs with low volatility (such as stablecoin-stablecoin pairs) reduces the likelihood of significant price divergence and minimizes impermanent loss.
Diversification Across Multiple Pools: Spreading liquidity across multiple pools can diversify the risk. By choosing pools with different risk profiles, LPs can balance potential losses from one pool with gains from another.
Pools with Higher Trading Fees: Participating in pools with higher trading volumes and fees can help compensate for impermanent loss. The fees earned from trading activity can offset the loss, especially in high-volume pools.
Active Liquidity Management: Active management of liquidity through market conditions monitoring and liquidity positions adjustment based on price movements or volatility trends can reduce exposure to impermanent loss. This strategy requires constant vigilance and a good understanding of market dynamics.
Providing Liquidity in Concentrated Ranges: Some AMMs, such as Uniswap v3, allow LPs to provide liquidity within specific price ranges and hence concentrate liquidity around the current price. This can increase capital efficiency and reduce exposure to impermanent loss in case the price remains within the selected range.
Mitigate Psychological Biases: To counteract these biases, DEXs can offer tools such as psychological nudges, clear educational content, and simulators that show potential scenarios of impermanent loss and recovery. Additionally, transparency about potential risks and rewards, along with dynamically updated analytics dashboards, can help LPs make decisions based on data rather than emotion.
HERE’S THE SCOOP ON THE LATEST PROTECTION OFFERING.
- Target Pool: Currently available only on the STON/USDT V2 pool.
- Offset Offer: Enjoy up to a 5.72% offset on impermanent loss—think of it as a safety net during price drops.
- Budget Cap: There’s a monthly limit of $10,000 set aside for offsets.
- User Limit: Up to $100 can be credited per user in STON tokens.
- Automatic Offsets: No need to file claims—automatic credits ensure ease of use.
- Timing Is Key: This protection kicks in when STON’s value dips during the set period from December 12 to December 31.
With this innovative protection mechanism, it’s now easier than ever to dive into liquidity provision. It’s a chance to elevate the DeFi experience while reaping the benefits of liquidity with added peace of mind.
READY TO AMPLIFY THAT DEFI EXPERIENCE
If providing liquidity is on the agenda, STON.fi makes it a compelling choice. Though it’s essential to remember that this program is discretionary, not a full insurance policy, and shouldn’t be expected to guarantee returns.
MY TAKE
In this constantly evolving DeFi realm, the Impermanent Loss Protection is a breath of fresh air. It empowers liquidity providers to engage more confidently, knowing there’s a safety net to catch them if market shifts occur. The ability to enjoy the benefits of liquidity while having a layer of protection truly a great achievement fot DeFi.