Impermanent loss, from the token team side

What impermanent loss actually is

An automated market maker holds two assets and quotes prices from the ratio between them. When somebody buys one side, the pool ends up holding less of it and more of the other. Nobody decides this; it falls out of the formula.

The consequence is that the pool is permanently trading against price movement. If your token rises, the pool has been selling it into SOL the whole way up. If it falls, the pool has been buying it with SOL the whole way down. In both directions the pool ends up holding more of the asset that performed worse.

Impermanent loss is the name for the gap between that outcome and simply holding the two assets untouched. It is not a fee, nobody charges it, and it does not appear as a line item anywhere. It shows up only when you compare what you withdrew against what you would have had.

The numbers, without the algebra

The relationship between price divergence and the size of the gap is worth memorising in rough terms, because it is not linear and the intuition most people carry is wrong in both directions.

Two things stand out. Small moves cost almost nothing, which is why liquidity provision in correlated pairs is a reasonable business. And large moves cost a great deal, which is exactly the scenario a token team is hoping for.

The direction does not matter, incidentally. A token that falls to a quarter of its launch price produces the same twenty per cent gap as one that quadruples. The formula cares about the ratio, not the sign.

Why it reads differently for teams

Here is where the standard explanation stops being useful. A neutral liquidity provider is comparing two outcomes they would have been equally happy with. A token team is not.

Consider what actually happened if your token went up four times and the pool position shows a twenty per cent gap against holding. The pool sold your token into SOL on the way up. You now hold more SOL and fewer tokens than you started with. Framed as a loss, that is twenty per cent gone. Framed differently, the pool executed a disciplined sell programme into strength, at prices you never had to choose, and converted paper value into an asset you can actually spend.

Whether that is a loss depends entirely on what you intended. A team that wanted to hold every token forever lost something real. A team that always intended to realise part of its position gradually got that for free, without a single visible sell order and without the accusation that follows one.

This is the single most useful reframe available to teams thinking about liquidity, and almost nobody presents it, because the standard explanation is written for people whose relationship to both assets is identical.

Concentrated positions make it sharper

Everything above assumes a constant-product pool spreading liquidity across every possible price. Concentrated liquidity changes the shape of the problem without changing its nature, and the differences are covered in more depth in the concentrated liquidity explainer.

Within a narrow range, the same capital provides much more depth, which means the pool trades more per unit of price movement and the compositional shift happens faster. The divergence cost per unit of movement is therefore higher, and it arrives sooner.

The larger practical issue is the range boundary. Once price moves outside the chosen band, the position converts entirely to one asset and stops earning fees. For a token that has appreciated past its range, that means holding SOL and watching the token continue upward with no participation at all. Teams discover this weeks later when they check a position they assumed was still working.

Neither behaviour is a defect. Concentrated liquidity is a tool that trades passive tolerance for capital efficiency, and a token whose price is genuinely unpredictable is the least suitable case for a narrow range.

What you can actually do about it

Weigh it against fee income. Liquidity providers earn a share of every swap. A pool with substantial turnover relative to its depth can generate fee income that exceeds the divergence cost comfortably. The fee tier matters here and varies by venue, which the fee comparison sets out.

Size the position deliberately. The gap applies only to what is in the pool. A team providing a defined portion of its holdings and keeping the rest in a treasury wallet has capped its exposure by construction, which is more reliable than any hedging arrangement.

Do not chase the range. Repeatedly moving a concentrated position to follow price locks in the divergence at each move and pays transaction costs for the privilege. Wide ranges on volatile tokens are less elegant and considerably more forgiving.

Decide the exit before you enter. Positions withdrawn in a panic are withdrawn at the worst possible ratio. A decision made in advance about when the position comes out is worth more than any tactical adjustment made afterwards.

Get the initial depth right. Most of what determines whether a pool works has already been decided by the time impermanent loss becomes relevant, and the initial liquidity guide covers the part that is actually under your control.

The framing that gets people into trouble

The mistake is treating impermanent loss as a risk to be eliminated rather than a cost to be priced. Teams that fixate on it either avoid providing liquidity at all, which leaves their token untradeable, or they build elaborate hedging arrangements whose costs exceed the thing being hedged.

The proportionate view is straightforward. Providing liquidity is a position with a known payoff shape: you earn fees continuously, you underperform holding when prices diverge sharply, and you outperform holding when they oscillate. For a token team, the underperformance case coincides with the scenario where everything else went right.

That is a tolerable trade, made clearly, with the number known in advance. What is not tolerable is discovering the shape of it after the fact and concluding that something was taken from you.