Unit 1 · Level 3 · AMMs & DEXes
Impermanent loss
LPing has an honest cost. When ETH pumps, arbitrageurs buy the pool's cheap ETH until its price catches up, so the pool ends up holding LESS of the winner and more of the laggard. Your share follows the pool. Compare that to just holding both coins in your wallet, and the pool version is worth less. That gap has a name: impermanent loss.
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What you get asked
What is impermanent loss, exactly?
It's a comparison, not a hack: pool value versus hold-in-wallet value. Whenever the two tokens' prices drift apart, the pool side falls behind.
ETH doubles while you're an LP in an ETH/stablecoin pool. Order the chain:
The rebalancing is automatic and unavoidable: the formula quietly sells your winner on the way up. Fees are your only compensation.
Why is the loss called 'impermanent'?
If prices round-trip back to your entry ratio, the gap closes and you keep the fees. If they never come back, 'impermanent' was a euphemism.
Impermanent loss becomes permanent the moment you ___ while prices are still far from your entry ratio.
Withdrawing locks in the pool's rebalanced mix. That's why LP timing matters as much as pool choice.
When is LPing still a good deal despite impermanent loss?
Stablecoin pairs barely drift, so IL stays tiny while fees accumulate; volatile pairs need serious volume to compensate. LPing is a business decision: fees in versus drift out. 🐜
The rest of this unit
How a pot of tokens and one formula replaced the order book.