Deposits & Withdrawals
Overview of asset deposits and withdrawals on Balancer Protocol

Providing Liquidity

What is the act of providing liquidity, and what does it mean for me as an investor? Providing liquidity is when a user or entity places their assets into a liquidity pool. A liquidity pool is its own ecosystem where the assets within it are priced in relation to one another. The relative pricing inside the pool is only altered when outside interactions such as trades or new “off-balance” investments occur. The expectation as a liquidity provider (LP) is that as market prices change, the liquidity pool will be interacted with, and the internal balances of tokens will most likely change over time.

How do I benefit?

What benefits does providing liquidity give me, why should I not just hold all my assets individually? There are several key benefits providing liquidity for users which holding them does not permit.
Firstly, are the swap fees which are charged to those who interact with your liquidity pool. The more interactions with your pool, the more swap fees you will earn, growing the size of your investment over time. The second benefit are the platform rewards. Multiple decentralized exchange platforms such as Balancer incentivize their liquidity pools with additional rewards for asset pairs which are chosen through the liquidity mining & governance systems. This makes a liquidity pool an easy way to gain access to and maintain exposure in a strategic way to multiple assets while receiving economic incentives.

How does it work on Balancer?

When providing liquidity to a pool on Balancer users have a few options. Originally in Balancer V1 liquidity providers had one option; to provide liquidity in the portions of tokens designated by the pool. For example, if a pool was weighted at a 50 / 50 ratio the liquidity provider had to provide liquidity of both tokens proportionally. This can become cumbersome in cases of multiple tokens such as eight token index pools.
Balancer V2 now permits liquidity providers the option to invest in pools using only a single asset which will then be added to the pool shifting the ratios of all other assets. This can be done with as many tokens as a liquidity provider has applicable to a pool and in proportion creating an extreme amount of flexibility when user’s want to invest in more exotic asset pools.

What should I expect?

When a user invests in a pool in an unproportioned manner a price impact will take place because the internal pool ratios are changing. This is indirectly a cost to a new liquidity provider due to their investment shifting asset prices. This occurrence is called price impact. Like price impact incurred by traders during large swaps, this happens to maintain the supply and demand markets for all tokens involved. In this document we will examine several examples for each of these different investment conditions to display the underlying math which determines price impact on investments.
Last modified 2mo ago