Concentrated Liquidity

Short Description:

Concentrating liquidity allows liquidity providers (LPs) to focus their assets within specific price ranges where trading activity is highest, leading to increased capital efficiency and deeper liquidity.

Main Description:

Concentrating liquidity allows liquidity providers (LPs) to focus their assets within specific price ranges instead of distributing them evenly across all prices. This means that LPs allocate their funds where trading activity is most robust, capturing fees from trades within these chosen ranges. All fees generated within these custom price ranges are collected as non-fungible LP tokens and distributed to providers based on their contribution.

By tailoring their asset distribution to different price ranges, LPs can implement market-making strategies similar to those used in traditional exchanges. They can also adopt reward-maximizing approaches through algorithmic yield optimization, resulting in improved capital efficiency and deeper liquidity, which benefits traders by minimizing slippage. Additionally, LPs enjoy greater rewards due to this enhanced efficiency, while also mitigating the impact of impermanent loss. Data indicates that the more tightly LPs concentrate their assets in a specific range, the greater their rewards become, with some studies showing that liquidity provision within a narrow 0.10 percent range can boost returns on investment by an astounding 4000%.