Impermanent loss
Value lost by providing liquidity to an automated pool versus simply holding the two coins.
Value lost by providing liquidity to an automated pool versus simply holding the two coins.
Automated market makers hold a pair of assets in a pool and rebalance them as price moves: when one coin rises, the pool sells it into the move. That rebalancing is what earns fees, and it is also what means your ending position differs from holding - if the price moves away from the ratio you entered at, the pool leaves you with more of the falling coin and less of the rising one than a plain hold would. The gap versus holding is the impermanent loss; it becomes permanent the moment you withdraw.
Fees are supposed to compensate for it, and for tightly range-bound pairs they often do. For a coin that doubles, the loss can exceed the fees several times over, which is why the metric belongs next to the advertised APY before any deposit. 'Impermanent' describes price coming back; most depositors never experience that path, they experience the withdrawal.
Worked example
Deposit $1,000 split evenly between two coins; one doubles and the pool rebalances toward it. Withdraw at that moment and you hold less of the doubled coin than a $1,000 hold would have kept - the difference is the loss, while the trading fees you collected sit on top of it.
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