In partnership with Blockworks, we are pleased to sponsor The Investor's Guide to Navigating Impermanent Loss.
Impermanent loss is the opportunity cost a liquidity provider faces when the net price difference between assets changes from the time they were first deposited. It is considered impermanent because liquidity providers can recover their loss if the token pair returns to the initial exchange rate.
Investors often claim that you can’t see the full damage of impermanent loss until funds are withdrawn. This isn’t the case. All data is open and measurable. Anyone can provide an estimate. The real challenge is finding a precise calculation and in analyzing the risk of impermanent loss vs the reward of transaction fees.
The complexity of data sources makes this analysis difficult to account for all investment strategies. But a review of the basics can provide the tools necessary for such a report.
This guide will offer context to IL by explaining the technology behind AMM liquidity pools. It will explain why it happens and why it is difficult to assess. And it will detail the data resources needed to detect clues before loss occurs.
What is impermanent loss?
Impermanent loss happens when the price of a token changes relative to its pair, between the time you deposit it in a liquidity pool and when you withdraw it.
Think of it as primarily an unrealized opportunity cost. It’s not a real loss, because the loss is measured against the value your investment would have been if the tokens were held outside of the liquidity pool. And it’s unrealized because token pairs can return to the same ratio before liquidity is withdrawn.