Providing Liquidity
What is Liquidity Provision?
Liquidity provision is the backbone of decentralized exchanges. By depositing token pairs into liquidity pools, you enable others to trade while earning fees from every swap that uses your liquidity.
How It Works
- Deposit Pairs: Add equal value of two tokens (e.g., $1000 ETH + $1000 USDC)
- Receive LP Tokens: Get tokens representing your pool share
- Earn Fees: Collect 0.05-1% from each trade using your liquidity
- Withdraw Anytime: Burn LP tokens to reclaim your share of the pool
Concentrated Liquidity Revolution
Uniswap V3 (2021) and V4 (2025) transformed liquidity provision with concentrated liquidity, allowing LPs to focus capital within specific price ranges for dramatically higher capital efficiency.
Capital Efficiency Simulator
Adjust the price range to see capital efficiency gains:
Example: $25M in DAI/USDC concentrated to ±10% provides the same depth as $250M in V2 pools.
V4 Innovations (2025)
- Hooks System: 2,500+ custom pools with features like MEV rebates, IL hedging
- Singleton Contract: All pools in one contract, 15% gas savings
- Direct ETH Trading: No WETH wrapping needed
- AI-Driven Management: Automated position rebalancing
Understanding Impermanent Loss
Impermanent loss (IL) occurs when token price ratios change after you provide liquidity. It's "impermanent" because it only becomes permanent when you withdraw.
Impermanent Loss Calculator
IL Risk by Price Change
- 1.25x price change: 0.6% loss
- 1.5x price change: 2.0% loss
- 2x price change: 5.7% loss
- 3x price change: 13.4% loss
- 5x price change: 25.5% loss
Current LP Opportunities (2025)
| Pool Type | Typical APR | IL Risk | Best Platforms |
|---|---|---|---|
| Stablecoin Pairs | 5-15% | Very Low | Curve, Uniswap V3 |
| ETH/Stablecoin | 10-25% | Medium | Uniswap V4, Balancer |
| Blue Chip Pairs | 15-30% | Medium-High | Uniswap, SushiSwap |
| Volatile Pairs | 30-100%+ | Very High | PancakeSwap, QuickSwap |
| Concentrated Stable | 20-40% | Low | Uniswap V3/V4 (0.99-1.01) |
Where to Find Current Yields
- DeFiLlama Yields: Compare APRs across all protocols
- APY.vision: Track IL and calculate real returns
- Revert Finance: V3 position management and analytics
- Poolfish: Uniswap fee calculator and position tracker
LP Strategies
Stable Pairs Strategy
Low RiskFocus on stablecoin pairs (USDC/USDT, DAI/USDC) with tight ranges (0.99-1.01) for minimal IL and consistent fees.
Expected Return: 10-20% APR
Blue Chip Wide Range
Medium RiskProvide liquidity to ETH/USDC or WBTC/ETH with wider ranges to capture more fees during volatility.
Expected Return: 15-30% APR
Concentrated Liquidity Active
High RiskActively manage narrow ranges, rebalancing frequently to maximize capital efficiency and fee capture.
Expected Return: 30-60%+ APR
V4 Hook Strategies
Medium RiskUse V4 hooks for automated rebalancing, MEV capture, and IL hedging through platforms like Bunni.
Expected Return: 20-40% APR
Advanced LP Tools (2025)
Automated Management Platforms
- Bunni (V4): Automates LP shapes, captures MEV for LPs
- Gamma Strategies: Active liquidity management for V3
- Arrakis Finance: Market making vaults with auto-rebalancing
- EulerSwap: LP positions double as lending collateral
Position Management Features
- Just-In-Time (JIT) Liquidity: Add liquidity right before large trades
- Range Orders: Limit orders using concentrated liquidity
- Auto-Compound: Reinvest fees automatically
- IL Protection: Hedge positions with options or derivatives
⚠️ LP Risks to Consider
• Impermanent Loss: Can exceed fee earnings in volatile markets
• Smart Contract Risk: Bugs could lead to fund loss
• Rug Pulls: Verify token contracts before providing liquidity
• Gas Costs: Frequent rebalancing can be expensive on mainnet
• Concentrated Risk: Narrow ranges can go out of range quickly
✅ Best Practices for LPs
• Start with stable pairs to learn with minimal risk
• Use simulators to understand IL before real deposits
• Monitor positions regularly, especially concentrated ones
• Consider automated managers for complex strategies
• Always factor in gas costs when calculating returns