Impermanent Loss
CryptoGlossary term
Definition
A temporary loss of value experienced by liquidity providers when the price ratio of the tokens they deposited into a pool changes compared to when they deposited them. The loss is called 'impermanent' because it can be recovered if the token prices return to their original ratio. However, if you withdraw your funds while the prices are still divergent, the loss becomes permanent and can outweigh the trading fees earned.
Related terms
- Liquidity PoolA collection of cryptocurrency funds locked in a smart contract that provides liquidity for decentralized trading, lending, or other DeFi activities. Users who contribute assets to a liquidity pool are called liquidity providers and earn a share of the trading fees generated by the pool. These pools are essential for DEXs to function because they replace the traditional order book model used by centralized exchanges.
- Yield FarmingA DeFi strategy where users provide their cryptocurrency to liquidity pools or lending protocols in exchange for earning interest, fees, or token rewards. Yield farmers often move their assets between different protocols to maximize returns, which can be lucrative but also carries significant risks. The rewards can come in the form of transaction fees, interest payments, or governance tokens.
- DEX (Decentralized Exchange)A cryptocurrency exchange that operates without a central authority, allowing users to trade directly with one another through smart contracts. Unlike centralized exchanges, DEXs do not hold users' funds and typically do not require identity verification. Popular examples include Uniswap and SushiSwap, which use liquidity pools instead of traditional order books.
- DeFi (Decentralized Finance)A broad category of financial applications and services built on blockchain networks that operate without traditional intermediaries like banks or brokerages. DeFi platforms allow users to lend, borrow, trade, and earn interest on their crypto assets through smart contracts. This ecosystem aims to make financial services more accessible, transparent, and open to anyone with an internet connection.
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