What is Impermanent Loss?
Let's find out Impermanent Loss meaning, definition in crypto, what is Impermanent Loss, and all other detailed facts.
Impermanent loss is a temporary loss of funds due to volatility in a trading pair that liquidity providers experience. This loss could also represent the amount of money someone would have if they would have continued to hold on to their assets rather than provided liquidity.
Liquidity pools usually have two assets that might differ in terms of stability. For example, one asset might be DAI, a stablecoin, and the other could be Ethereum (ETH), a more volatile asset. Now, let’s say that a provider has to offer equal levels of liquidity for ETH and DAI but the price of ETH goes up all of a sudden.
Since the price of ETH in the liquidity pool no longer reflects the reality, this creates an appealing opportunity for arbitrage. Thus, other traders will buy ETH at a discounted price until the ratio of DAI to ETH is balanced again and it is ensured that it will stay this way.
After that, a liquidity provider will probably have a bigger amount of DAI and a smaller amount of ETH. Impermanent loss shows the difference between the current value of a provider's assets and the value they would have if these assets remained in an exchange for a longer period of time. Note that loss becomes permanent only when a provider decides to remove their liquidity.