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Calculate the cost of providing liquidity in a Decentralized Exchange (DEX). Compare your LP position value vs. simply holding the tokens in your wallet.
Step-by-step breakdown of the underlying equations.
To break even on this position, your earned fees (APY) must exceed the 5.72% loss incurred by the price divergence.
The Impermanent Loss Calculator shows you how much value you lose compared to simply holding tokens when you provide liquidity to a decentralized exchange (DEX) and token prices change. It uses the standard constant product AMM formula used by Uniswap, SushiSwap, and similar protocols.
Understanding IL is crucial for DeFi liquidity providers to evaluate whether trading fee rewards are likely to compensate for the opportunity cost of price divergence.
Scenario: You provide liquidity to an ETH/USDC pool. ETH doubles in price (+100%), while USDC stays flat (0%). How much IL do you experience?
Reference: Common IL values: 1.25× price ratio = 0.6% IL, 1.5× = 2.0% IL, 2× = 5.7% IL, 3× = 13.4% IL, 5× = 25.5% IL.
Impermanent loss (IL) occurs when you provide liquidity to an automated market maker (AMM) like Uniswap, and the price ratio between your deposited tokens changes. The AMM automatically rebalances your position, leaving you with less value than if you had simply held the tokens. It's called 'impermanent' because if prices return to their original ratio, the loss disappears.
AMMs use a constant product formula (x × y = k) to maintain liquidity. When token prices diverge, arbitrageurs trade against your pool position to balance it, extracting value in the process. The more prices diverge, the more rebalancing occurs, and the greater your IL. If Token A doubles while Token B stays flat, arbitrageurs sell A for B until the pool reflects market prices.
IL becomes permanent (realized) loss when you withdraw your liquidity while prices are diverged from your entry point. If you stay in the pool and prices return to their original ratio, IL approaches zero. However, if one token trends consistently against another (like many altcoins vs ETH), the loss often becomes permanent as prices never return.
Liquidity providers earn a share of trading fees (typically 0.3% per swap on Uniswap v2). High-volume pools can generate enough fees to offset IL. The break-even APY depends on IL severity: 5% IL needs ~5% fee yield, but 25% IL needs ~33% yield to break even. Check if projected fee income exceeds your expected IL before providing liquidity.
Strategies include: (1) Choose correlated pairs like stablecoin/stablecoin or wrapped BTC/BTC where prices move together, (2) Use concentrated liquidity (Uniswap v3) in tight ranges for stablecoin pairs, (3) Provide liquidity to pools with high fee volume, (4) Use IL insurance protocols where available, (5) Avoid highly volatile or trending assets that are likely to diverge significantly.