Understanding Impermanent Loss Easily in Momentum Providing liquidity in DeFi is not just about putting tokens in; it involves participating in a structure where my asset composition is automatically adjusted every time a trade occurs. A typical risk that arises in this process is impermanent loss (IL). Let's understand this with an example from @MMTFinance. [Pool Rules: x * y = k] AMM pools always adhere to the formula x * y = k. This means that the two assets in the pool are always forced to maintain balance. ● x = Amount of ETH ● y = Amount of USDC ● k = A value that remains constant [What Happens When Prices Change] When the price of ETH rises, traders buy ETH from the pool, and in return, they add more USDC. ● Overall, ETH in the pool decreases while USDC increases. ● Since the assets I supplied change in the same ratio as the entire pool, my share also results in a decrease in ETH and an increase in USDC. ● Although I didn't sell ETH directly, due to the pool's rules, it appears as if some ETH has been sold. [Example of Impermanent Loss] ● Assuming 1 ETH = 5,000 USDC ● Deposited in the pool: 1 ETH + 5,000 USDC = Total 10,000 USDC If the price of ETH doubles to 10,000 USDC: ● The pool automatically adjusts to balance with the external market price. During this process, the ETH in the pool appears cheaper than the external market, prompting arbitrage traders to add USDC to the pool to buy ETH. ● As a result, the ETH in the pool decreases while USDC increases, and ultimately, the total value of the pool becomes approximately 14,142 USDC. ● The 858 USDC is the impermanent loss, corresponding to about a 5.7% loss rate. [Why is it Impermanent?] ● If the price of ETH returns to 5,000 USDC, the pool's ratio will also recover to its original state, eliminating the loss. ● This is why it is called impermanent, but in the actual market, prices often do not return to their original positions, resulting in many cases of permanent loss. [How to Reduce Losses in Momentum] Momentum cannot completely eliminate this structure, but it has several mechanisms to reduce risk. ● Trading Fees: The fees generated in the pool accumulate to offset some of the IL. ● MMT Token Incentives: By providing liquidity to specific pools, you can receive additional rewards to alleviate losses. ● Stablecoin Pools: Choosing combinations of low-volatility assets like USDC and USDT reduces IL risk. [What is Price Range?] ● Momentum's Set Price Range is a feature that determines the price range in which the liquidity I provide will operate. ● If you set a narrow price range, liquidity will be concentrated near the current price, allowing you to earn more fees when trades occur, but if the price goes outside the range, your liquidity becomes inactive, and your assets will convert to one token. ● Conversely, if you set a wide range, the yield will be lower, but it will remain relatively stable against price fluctuations. ★ Momentum's pool operates on a CLMM (Concentrated Liquidity Market Maker) structure, so it is important to consider that liquidity stops entirely when it goes outside the specified range, not just the impermanent loss. ★ A narrow range offers high returns and significant risk, while a wide range provides lower returns and stability, creating a trade-off.