Providing Liquidity

  • Updated

As a maker on Perpetual Protocol, your liquidity may be split into base token (e.g. ETH) and quote token (e.g. USD). When you remove your liquidity, you must return the same amount of base token as you received. Let's say you initially provided 1 ETH and 1000 USD. To remove your liquidity, you will still have to return 1 ETH and 1000 USD. If the price of ETH goes up, it will cost more to remove the liquidity than it was initially worth.

For sophisticated traders only

Designing and executing profitable maker strategies may be difficult and require active management, hedging in other venues, etc. Providing liquidity carries significant risk of financial loss including: impermanent loss and liquidation (partial or complete). Do not provide liquidity until you understand the risks and challenges inherent in market making. 

Key Principles

Order Book vs AMM

Perpetual Protocol is an AMM-based exchange. There is no order book.

However, there are some similarities with an order book exchange thanks to the protocol's use of Uniswap v3 as the trading engine. This gives traders the ability to place orders in certain price ranges, and takers will use this liquidity when placing market orders.

Because of this, there will be a distribution of liquidity along a range of prices, typically with the bulk of liquidity concentrated around the current price.

Providing Tokens

Liquidity can be provided in USDC or any of our non-USDC supported collaterals (currently ETH/WETH & FRAX). Other tokens are not used for providing liquidity at this time.

Token Loans

Providing liquidity will take one of three forms.

  1. Liquidity is below active price range 100% of liquidity is in USD (quote token)
  2. Liquidity is within active price range. Part of liquidity is in USD, and part in base token (ETH, BTC, etc.)
  3. Liquidity is above active price range 100% of liquidity is in base token (ETH, BTC, etc.)

In cases 2 and 3, you will receive base tokens in the form of a loan. These tokens must be paid back when liquidity is removed. If the token value increases, the amount of USD needed to cover the loan increases (i.e., you will be able to withdraw less USD than you originally added).

Funding Payments

Liquidity providers also pay or receive funding payments depending on market conditions. Funding will be paid/received once you have a maker position (AKA impermanent position) and follows the same principals as regular funding payments:

  • If funding is positive, longs pay shorts
  • If funding is negative, shorts pay longs

More on funding payments: https://support.perp.com/hc/en-us/articles/5257580412569-Funding-Payments 

Liquidation

Maker positions can be liquidated if the value of loaned assets increases and approaches a point beyond your ability to pay back.

Full article: https://support.perp.com/hc/en-us/articles/6456586794649 

Anatomy of a Trade

  1. You place liquidity at any price range. 
  2. When the current price is within this range, your liquidity will be bought and sold by traders making market orders (aka takers).
  3. When takers open longs (causing asset price to increase), some of your base tokens (ETH, BTC, etc.) are sold for USD, putting you in a short position.
  4. When takers open shorts (causing asset price to decrease), some of your quote tokens (USD) are sold for base token, putting you in a long position.
  5. When takers close their positions, tokens are swapped back. Therefore if a short position closes, you will end up with more quote token, and if a long position closes, you will end up with more base tokens.
  6. When you remove liquidity, a few things happen:
    • If the current price is different from the initial price when you added liquidity, you will see an ‘impermanent position’ in your account. This will become a regular ‘taker’ position after liquidity is removed, and can be closed like a regular position anytime you want.
    • You must repay your loan of base token at the current price. E.g., if you provided 1 ETH as liquidity, you must repay 1 ETH at the current price.