Liquidity pools & impermanent loss
Decentralized exchanges don't use an order book, they use pools of two assets that anyone can trade against. Provide to a pool and you earn a cut of every trade. There's a catch, and it has a name.
How an AMM pool works
You deposit a pair (say ETH + USDC) into a pool. Traders swap against it, and a formula keeps the pool balanced by adjusting the price. Every swap pays a fee, split among liquidity providers in proportion to their share. Your deposit is represented by an LP token you can later redeem.
Impermanent loss, plainly
When the two assets' prices diverge, the pool's rebalancing leaves you with more of the loser and less of the winner than if you'd just held. That gap versus simply holding is impermanent loss, "impermanent" because it shrinks if prices return, and becomes real when you withdraw.
Before you provide
- Prefer correlated or stable pairs to limit IL (e.g. two stablecoins).
- Check pool volume, fees only add up with real trading.
- Audit the contract; pools are a common exploit target.
Educational market information, not financial advice. Markets carry risk of loss, do your own research.