We’re happy to announce that we’re migrating our liquidity to Uniswap V3! As you might know, last week, Uniswap unleashed its groundbreaking V3. There are several upgrades in the new version, but the most important is concentrated liquidity. Thanks to this new feature, LPs (Liquidity Providers) can distribute the liquidity in specific parts of the price curve, making capital much more efficient. Uniswap V1 and V2 collateral from the pools were evenly distributed in all the price ranges, making the capital very inefficient compared to book-based exchanges.
Why would you provide your capital in a price range that will probably not be touched? As an LP, you want your capital to be concentrated where the action is to collect as many fees as you can. Advantages of concentrated liquidity include swappers and LPs: swappers will experience fewer slippage thanks to higher liquidity on the price range where the trading is actually happening. LPs will have a higher return on their capital thanks to concentrated allocation.
The formula to calculate the capital efficiency of a Uniswap V3 position relative to providing liquidity to the entire V2 curve is the following:
Where A and B are respectively the lower and the higher price bounds, let’s give an example to clarify how it works: let’s assume that token A has a static price of 1$ and let’s say that an LP will cover the price range of +-50% with his liquidity (so between 0.50$ and 1.50$). Plugging in the numbers in the above formula, we got 4.2. That means, with the same amount of liquidity, a user will experience 4.2x less slippage while trading on such a price range. At the same time, the LP competing with another LP would earn 4.2x the trading of an LP employing the same capital but distributing it on the whole price curve as in V2. But that’s not all; the fee structure has changed as well. In fact liquidity providers can choose to provide liquidity on different fee tires: 0.5%, 0.3% and 1.0%. Higher fees for LP better mitigate the risk of impermanent loss attracting even more liquidity on volatile pairs.
Of course, all of this innovation also comes with some downsides; in this case, the tradeoff is the complexity for the liquidity provider; while in V2, providing liquidity was a reasonably straightforward process, in V3, the cognitive burden is much higher. LPs have also to choose the price fluctuation range they want to be in, which is not an easy choice. Our suggestion to LPs is to start with wide ranges, restricting the bounds while getting confidence with the new system. To facilitate the transition, we will begin by moving our liquidity for V2 to V3 today with an extensive price range, creating a liquidity base for LPs who want to start exploring how the groundbreaking V3 liquidity provision works.