impermanent loss
A temporary loss experienced by liquidity providers in automated market makers when the price ratio of deposited assets changes from the time of deposit.
Example
“After providing ETH/USDC liquidity, impermanent loss from ETH's price surge meant she would have done better just holding ETH.”
Memory Tip
IMPERMANENT LOSS = the hidden cost of providing DeFi liquidity. Price divergence hurts LPs.
Why It Matters
Impermanent loss directly affects the returns liquidity providers earn when they deposit cryptocurrency into decentralized exchanges. Understanding this concept helps investors decide whether the trading fees they earn justify the risk of price movements reducing their total asset value compared to simply holding their coins.
Common Misconception
Many people mistakenly believe that impermanent loss is permanent and irreversible. In reality, the loss only becomes permanent if you withdraw your liquidity after prices have moved unfavorably, and the loss can disappear if prices return to their original ratio before you exit your position.
In Practice
Suppose you deposit 1 ETH and 1000 USDC into a liquidity pool when ETH costs 1000 USDC. If ETH price rises to 2000 USDC and you hold until withdrawal, the pool will have automatically rebalanced to approximately 0.707 ETH and 1414 USDC due to arbitrage. Your withdrawal value would be around 2000 USDC total, but if you had simply held your original assets they would be worth 3000 USDC, resulting in a 1000 USDC impermanent loss.
Etymology
IMPERMANENT (temporary, not permanent) LOSS. A LOSS that is IMPERMANENT — only realized if you withdraw.
Common Misspellings
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