DeFi tools Research

Impermanent Loss in DeFi- How Liquidity Providers Can Avoid It

Financial instruments exist to help individuals and institutions save, manage, and grow their assets. Yet many investors find themselves unhappy or lacking motivation to indulge in most of the traditional asset classes due to a variety of reasons, some of which includes issues with accessibility, associated costs and regulatory red tapes, large ticket sizes combined with low returns and more. All these factors have led them on a search for attractive alternatives, conveniently offered by DeFi.

Evolving from the technology underlying Bitcoin, followed by the introduction of the first ever programmable blockchain in the form of Ethereum, DeFi is the application of the very technology to create financial solutions. DeFi, short for Decentralized Finance, now provides a viable alternative to highly centralized traditional financial systems.

DEXs in DeFi

Powered by crypto assets, the applications of DeFi range from simple exchange/swap solutions to lending, insurance, and other yield generation instruments. It is open for everyone to participate, enabling them to invest and generate returns without the hurdles faced in traditional finance. In most DeFi instruments, users are always in control of their funds and play a crucial role in ensuring continued operation of these solutions.

Decentralized Exchanges – DEXs, play a pivotal role in the DeFi ecosystem. Its importance is underlined by their presence in native form on each of the many blockchain protocols out there. Apart from allowing users to exchange one crypto asset to another, they also pave the way for various other DeFi activities like staking and yield farming.

Liquidity Provisioning on DEX

For an exchange platform to operate, they need to have liquidity in the form of tokens for each crypto pair they support. Centralized exchanges maintain a huge liquidity pool composed of user deposits along with their own funds that enables uninterrupted exchanges and trades. However, in a decentralized context, there is no centralized pool. Instead, they rely on the community members providing liquidity by depositing their holdings into respective liquidity pools, in exchange for rewards.

Such a model, automated by smart contracts is known as Automated Market Maker model and the DEXs are called AMM DEXs. Few examples of AMM DEXs on different protocols include Uniswap on Ethereum, QuickSwap on Polygon, QuipuSwap and InstaDEX on Tezos and so on.

As Liquidity Providers (LPs), community members stake their crypto assets, usually in pairs, into the liquidity pools present in automated market maker (AMM) DEXs. Other users looking to exchange their assets can select the relevant token pair listed on the platform and deposit one of tokens into the smart contract to receive an equivalent value of another into their wallets to complete the swap process.

The deposited token gets added to the liquidity pool to affect the withdrawal and transfer of the other token from the same pool.

For their contribution to the ecosystem, LPs receive a portion of the transaction fees on swaps charged by the platform from its users as rewards. Sometimes, the LP tokens received by liquidity providers as a confirmation of their contribution to the pool can be deposited in certain DeFi farms to earn additional rewards.

While liquidity provisioning acts as an attractive passive crypto income generating activity, it is also associated with risks that could lead to LPs losing large sums of value, like rug pulls, flash loan attacks and impermanent loss- the latter of which can be avoided or mitigated with the right information.

The saying “the greater the risk, the greater the reward” applies even more for a segment as volatile as cryptocurrency but a smart investor usually works around the risks present to make steady profits in the long run.

What is Impermanent Loss in DeFi?

Impermanent Loss is an unrealized loss that LPs only notice upon withdrawing their asset pairs from liquidity pools. It refers to a reduction in the dollar value of these staked assets as compared to their dollar value if the LPs just held on to them. By deciding to not withdraw their assets and wait it out instead, there’s a chance that the loss could correct itself- hence named ‘impermanent’.

How Impermanent Loss Occurs, With an Example

It would obviously make more sense to explain such a technical concept with an example that will aid in understanding better.

Let us say, a liquidity provider, LP1 decides to provide liquidity to a 50:50 ETH/DAI pool on Uniswap. The person stakes 10 ETH at a price of $1000 per token and an equivalent value of 10,000 DAI to secure a 10% stake in the pool containing a total of 100 ETH and 100,000 DAI.  Following LP1’s contribution, a user decides to swap 50,000 DAI to 50 ETH from the pool. Following the swap, the liquidity pool will have 50 ETH and 150,000 DAI.

Meanwhile, let us assume an increased demand for ETH in the market drives its value by 2x to $2000 per tokens. At this time, if LP1 were to withdraw their staked assets, which is 10% of the pool value at that moment, they will receive 5 ETH and 15,000 DAI valued in total at $25,000.

If the person had held on to the assets without contributing to the pool, it would have been worth $30,000 ($20,000 in ETH and $10,00 in DAI). By contributing and withdrawing from the liquidity pool, LP1 experienced an effective impermanent loss of $5,000.

Those who provide liquidity for highly volatile assets are at a higher risk of losing value due to the occurrence of this phenomenon. However, by keeping in mind a handful of suggestions and playing it smart they can prevent the loss of any value or at least minimize it.

Ways to Avoid Impermanent Loss

Liquidity providers can make use of multiple options provided by DeFi platforms to minimize the magnitude as well as risks of impermanent losses. Some of the tried and tested strategies include participation in yield farming, providing liquidity for stablecoin pairs or low-volatility pairs, opting for flexible pool ratios and single asset liquidity provisioning.

Yield Farming

The best form of defense is offense and LPs can be on the lookout for farming programs offered by the same protocols offering the liquidity pools. By farming the proceeds received from the pools, they can bag considerable yields that are often large enough to offset impermanent losses whose occurrence can sometimes be inevitable. A risky strategy, it is something that seasoned investors should give a try.

Stablecoin Pairs

For those wanting to play it safe, staking stablecoin pairs is the way to go. As the name suggests, the value of stablecoins remains mostly constant albeit for minor fluctuations at times. The absence of volatility with such token pairs makes the chances of dealing with impermanent loss quite low (very slight fluctuations in the value of these coins do occur sometimes).

As the least risky way to provide liquidity, one can expect to earn profits from trading fees depending on the demand for these tokens.

Low Volatility Pairs

The returns on liquidity provisioning for stablecoin pairs may be on the lower end and the next best alternative is participation in pools consisting of low-volatility crypto pairs. At a slightly elevated risk potential, users can stake their assets in such pools being assured of minor price variations between each other. They can choose to invest in those pairs that exhibit similar price fluctuations, in the same direction to evade potential losses.

Flexible Pool Ratios

For those with a greater risk appetite and keen on providing liquidity for assets that are on the more volatile side, liquidity pools that offer flexible ratios balance out the risk. Pools in popular AMM DEXs like Uniswap follow the 50:50 ratio and keep the total value of the pool constant using algorithms. However, such ratios are known to cause impermanent losses frequently.

Instead, pools where one asset has a huge weightage as compared to the other reduces and can prevent such losses. For example, certain DEXs consist of popular pools that allow users to stake token pairs at 80:20, or even 98:2 ratio. re of the ratio 80:20 or even 98:2. Any impermanent loss experienced is minimal and can be easily offset by transaction fees.

Single Sided Liquidity Pools

Pools with flexible ratios like 98:2 prevent users from facing greater exposure to the volatility of two different assets at the same time. A new breed of DEXs led by Bancor – the first protocol to deploy the AMM algorithm providing for single sided liquidity pools, followed closely by InstaDEX on Tezos ecosystem take liquidity provisioning to the next level by allowing LPs to stake and maintain complete exposure to one single asset.

Such protocols also offer protection from the impermanent loss incurred with single asset liquidity provision- a great incentive to provide liquidity to the platform. Therefore, LPs can hold their assets in the pool for long periods of time, generating passive returns in the form of trading fees, staking rewards, and compounding yields.

Investing in Single Sided Liquidity Pools

Liquidity providers can begin to invest in single sided liquidity pools by staking a volatile asset. Meanwhile, as a market maker, the protocol or other users co-invests an equivalent amount of its native tokens and charges fees on its stake until the LP withdraws their asset at which point the co-invested tokens are burnt.

The fee collected is used by the protocol to cover any impermanent loss that LPs face in these pools. Moreover, LPs can also stake these native tokens that they own on the other side of the single asset provision pools. These tokens replace those staked by the protocol which are burnt.

Single Asset Liquidity provisioning pools on InstaDEX– the first platform on the Tezos blockchain to offer Bancor like features allows users to stake any asset of their choice on the relevant liquidity pool for efficient utilisation of the user’s portfolio.

Further, the impermanent loss protection insurance offered by InstaDEX covers LPs from potential impermanent losses after a minimum staking period of 100 days. The insurance fills the difference in value of assets in case of impermanent losses during the time of withdrawal to ensure the LP doesn’t lose any value by contributing to the ecosystem.


Impermanent loss is a by-product of all the advantages offered by DeFi. In the existing conventional AMM structure, it may be unavoidable, but there are always options available for consideration to minimize or overcome it.

With InstaDEX, Instaraise has devised single asset staking and impermanent loss protection insurance as a way to ensure the community is encouraged for their efforts and not penalized by forcing them to accept impermanent loss under volatile market conditions.

DeFi tools

A Dex designed to boost and re-shape Tezos Defi – InstaDEX FAQs

Instaraise, the first of its kind decentralized fundraising and incubation protocol on Tezos protocol, has been preparing the ground for a full-fledged DeFi offering on its path to introduce Instaraise v2.0.

Some of the prominent products and features included in the upgrade includes the InstaDEX decentralized exchange platform and a cross-chain bridge connecting Tezos ecosystem with other blockchain protocols.

The future roadmap for Instaraise v2.0 has garnered a lot of community interest. InstaDEX has stood out with prominent features like Impermanent Loss protection insurance and single asset staking.

The combination of a decentralized exchange platform along with existing infrastructure and a strong community following will turn Instaraise into a comprehensive incubation and fundraising platform that can cater to projects in various stages of development while offering all the required support until they gain sufficient adoption.

Meanwhile, the cross-chain bridges, once introduced, will open the Tezos ecosystem to a much larger community, attracting more users and liquidity.

Lots of curious eyes following InstaDEX

Yet to be officially launched, InstaDEX has already attracted a lot of attention, especially the impermanent loss protection and single sided liquidity provisioning parts.

As a result, a lot of queries regarding the benefits of InstaDEX over its peers, and how these new features, introduced for the first time on Tezos will help, continue to float around on internet forums, AMA sessions and even Instaraise’s social media and communication channels.

Questions surrounding AMM DEXs and Impermanent Loss

There are many AMM (Automated market makers) DEXs operating in the crypto industry and they are all plagued by one small issue that affects liquidity providers- Impermanent Loss (IL).

So, what is Impermanent Loss?

Impermanent loss is a reduction in the value of crypto assets in a liquidity pool experienced by the liquidity provider at the time of withdrawal as compared to the present-day valuation of the actual contribution made to the pool.

The fluctuating value of assets combined with demand and available liquidity in the pools play a significant role in causing impermanent loss.

Can impermanent loss be ever completely neutralized?

It is one of the most common questions asked by many. Unfortunately, the answer is no. But one can minimize exposure to such losses by timing the withdrawals right as any losses due to impermanent loss turns permanent only after the withdrawal from liquidity pool is initiated.

How can one avoid Impermanent Loss?

Apart from ensuring the right timing for withdrawal, the next best option to avoid losses is through IL Protection. Impermanent Loss Protection acts as an insurance that gets triggered automatically whenever an eligible user is at the risk of incurring a loss while withdrawing from the liquidity pool.

In case of InstaDEX, the platform will have an IL Protection insurance in place to ensure the liquidity providers on the platform are not affected by the pool conditions that could force them to face losses during withdrawals.

With IL Protection, InstaDEX encourages more users to join the ecosystem as liquidity providers, without worrying about losing money unnecessarily.

The InstaDEX IL protection insurance policy is a result of in-depth research as well as a case study of Bancor, the first DEX to offer such a program.

Didn’t Bancor suspend its IL protection cover recently?

Bancor has temporarily suspended IL Protection due to evolving crypto market conditions which are not favorable at the moment. There is a high possibility the coverage will be reinstated in the future.

Even though the Instaraise team has drawn inspiration from the Bancor model, they have carefully designed the gamification element of the InstaDEX IL insurance in such a way that a repeat of a similar market scenario after launch does not impact the protection offered to liquidity providers.

How does InstaDEX differ from Bancor and other DEXs in terms of IL protection?

Gamification on InstaDEX is designed to be self-feeding and self-securing to attract both traders and LP providers.

An increase in trade results in better treasury building and wider, complete insurance coverage. For e.g., whenever the market fluctuation is high, traders tend to execute more traders on the DEX which in turn contributes towards a healthier treasury capable of offering better insurance coverage to LPs.

IL coverage on InstaDEX begins from Day 30 for LPs with a 30% coverage. The coverage continues to increase each day until Day 100 to reach 100% coverage from that day and beyond.

The self-incentivizing and self-insuring structure in InstaDEX diverts a portion of platform revenues generated from transaction fees in $INSTA to a compensation vault.

The $INSTA holdings in the compensation vault act as the treasury to cater to any IL insurance liabilities incurred during the operation.

The 100% IL protection for LPs active for 100 days or more will be available only on InstaDEX, creating a safer environment for the LPs to participate in the ecosystem.

The extent of coverage on other platforms is limited to a certain extent and doesn’t compensate for the full extent of losses incurred by an LP at any time.

All these factors make InstaDEX stand apart from Bancor and other AMM DEXs that are currently out there in the market.

What is Single-Sided Liquidity provisioning offered by InstaDEX?

Most DEXs allow users to provide liquidity in pairs. The LP must deposit an equivalent value of both tokens comprising the exchange/trading pair supported on the platform.

The Single-Sided Liquidity provisioning championed by InstaDEX allows LPs to provide liquidity in any supported token of their choice instead of token pairs specific to each liquidity pool and continue to earn rewards.

Each such contribution will be countered with an equivalent of the corresponding token in the liquidity pool by InstaDEX from the protocol reserves.

For e.g., in an $XYZ-$INSTA liquidity pool, the LP can choose to provide liquidity either in terms of $XYZ or $INSTA without having to worry about securing and depositing an equivalent value in other token, which allows them to go bullish on a single token while generating fees from them.

InstaDEX to become the driving force behind $INSTA and the entire Tezos ecosystem

Like all blockchain ecosystems, Tezos protocol is also a home for multiple AMM DEXs. With so many AMM DEXs, some with cross-chain compatibility available in the crypto industry, the crypto community is interested to know about the benefits InstaDEX as a new entrant will offer over its peers.

There are few obvious questions regarding InstaDEX in the Instaraise and Tezos context that need to be addressed as well.

How does InstaDEX differ from other AMM DEXs? How does Tezos ecosystem benefit from it?

InstaDEX is not just another AMM DEX on the Tezos protocol. In fact, it is part of a much larger ecosystem driving value to Tezos by providing a secure and lucrative avenue for crypto investors to contribute towards the growth of DeFi on Tezos.

With IL protection, single-sided liquidity and cross-chain compatibility, investors can be assured of their interests being protected on a much larger, flexible playground.

Meanwhile, projects that are part of Instaraise incubation and fundraising platform get ready access to a trusted AMM DEX with high liquidity and a diverse investor base that could potentially differentiate between success and failure. All these factors contribute towards increased adoption of Tezos.

What Impact will InstaDEX have on Instaraise’s $INSTA utility tokens?

Meanwhile, $INSTA as the base token for swaps on InstaDEX and an ecosystem token of Instaraise has a strong utility which translates to a strong valuation.

With more people providing liquidity to InstaDEX pools in $INSTA, the demand for Instaraise’s native token will soon outstrip the supply.

The increase in importance of $INSTA on Tezos is only augmented further by increased arbitrage opportunities across multiple DEXs, all painting a promising picture for $INSTA holders and members of Instaraise and Tezos communities alike.

Wait coming to an end soon…

It is just a matter of time before InstaDEX is officially launched. Amid turbulent market conditions, the platform is being constantly battle-tested to ensure there are no surprises in any scenario.

Once the team is assured of the robustness, security and versatility of the platform, and the market stabilizes a bit, InstaDEX will be made available to the public.

Dev updates

InstaDex Private Testnet V1 “Skywalker”- Participate Now!

Instaraise team is thrilled to inform the whole Tezos community that the ”Skywalker” (InstaDex version 1.0) is now live on Testnet. This update signifies our hard work and the commitment towards our mission of building a Defi universe on Tezos.

InstaDex is going to be the first “Single asset liquidity provisioning” DEX on Tezos.

With InstaDex, we aim to solve the problem of Involuntary Token Exposure and Impermanent Loss by creating a system where INSTA holders i.e the liquidity providers will not only manage the risk, but also participate in the upside via swap fees collected by the protocol.

By diversifying the risk of impermanent loss across a wide array of pools, we could potentially deploy a system where the revenue from swap fees exceeds the network-wide cost of Impermanent loss insurance.

Skywalker Beta tester program

Tezos has always been an ecosystem of a highly talented crowd of developers, artists and crypto lovers who collectively work towards the upliftment of the whole ecosystem.

As InstaDex is built for the community, what’s better than every member contributing towards building the First DEX on tezos with impermanent loss protection?

Therefore, we introduce you to Skywalker Beta tester program with an aim to build together on Tezos

To apply for the program, signup by filling a small form given below

We hereby call upon all developers to help join our team to further develop the InstaDex which will ensure that we develop a product that the community truly loves. The tez army in the Beta tester program will be working closely with the Instaraise team to test the Skywalker version of InstaDex and be instrumental for the success of the same.

What’s in it for the Beta testers?

The Beta testers in the Skywalker Beta testing program will be entitled to various perks and opportunities that will be coming soon during our Public testnet release and Mainnet launch. Few of them will include

  • Work with highly skilled developers and test the private ‘Skywalker” version of InstaDex before anyone else
  • A reward pool of $2,000 worth XTZ token will be airdropped to our top 5 Beta testers on the mainnet launch (Read section “Rewards distribution” to know more)
  • A chance to be seen by the wide Tezos and crypto community for sharing your views and opinions on our DEX which will also help you in ensuring brand value and exposure to many bigwigs in the industry.
  • Beta testers can also become the early liquidity provider on InstaDex and earn Tx fees
  • Exclusive access to upcoming Instaraise events

Your role as a Beta tester

The Beta testers will be the first one to get exclusive access to InstaDex private testnet “Skywalker” and will be able to play around with the testnet before anyone else.

As a tester, you will be required to test Skywalker and hunt down any bugs or security concerns that might be critical for the development of the DEX

Apart from this, you are welcomed to provide your valuable suggestions and ideas that can further improve DEX functionalities.

How to apply for the program?

Fill out the small form below to apply for the Skywalker Beta testing program.


Submitting your feedbacks

Submitting the feedbacks, bugs and suggestions is as easy as posting a tweet!

While testing the ins and outs of the Skywalker, you can provide feedback and suggestions by simply sharing them via individual tweets or a tweet thread on Twitter with proper screenshots/videos supporting your feedbacks.

If, anyhow you are unable to find any bugs, you can even share your review about the Skywalker via tweet which will be equally significant.

Make sure that you tag “@instaraise” in your tweet along with the hashtag “#InstaDex” for us to find your tweet easily.

TIP- The more elaborated and well explained is your tweet, the higher is your chance of winning!

For any other queries related to the program, contact us directly on the Instaraise official telegram community channel where our admins are always ready to help you.

Reward distribution

This Beta tester program will consist of 20 individual Beta testers who will testing the ins and outs of the Skywalker. However! to spice things up, only 5 winners will be selected out of those who will share $2,000 worth of reward pool of XTZ equally.

Winners will be selected on the basis of

  • The criticality of the bugs and issues found out during your testing
  • Significance of your suggestions for the development of the DEX
  • The level of deep testing done by the testers which will be interpreted by the quality of your feedback and suggestion tweets

Result Announcement

The results announcement and airdrop for the private beta tester program winner will be done soon at the time of InstaDex mainnet launch!

Join our Instaraise community channel for instant updates about the program and upcoming developments➡️