LPs: Have you ever wondered how much temporary loss you avoid by acting as a liquidity provider on Clipper versus other DEXs like Uniswap? Well, Clipper’s data dashboard now includes a feature that shows you exactly that!
The dashboard’s latest metric, Comparable APR, showing the yield for Clipper’s core pools on Ethereum, Polygon and Optimism, including the impermanent loss (IL) that LPs avoid thanks to Clipper’s novel FMM design. These APYs are directly comparable to the APYs reported by other DEXs like Uniswap and Sushi. The tracker also shows (under the comparable APY number) the total IL dollar amount avoided by Clipper LPs. The sum of the net trading profit and the comparable APY dollar figures gives the comparable fees for the period.
That’s right, earnings-based APR
When it comes to LP returns, the APYs quoted by the vast majority of DEXs can be misleading. In traditional finance, Annual Percentage Return (APY) refers to an individual’s earnings over the course of a year, expressed as a return on investment. However, most DEXs do not deduct from their APY numbers the costs that LPs may incur in providing liquidity (like IL). This means that the “APY” reported by these DEXs is actually revenue, not bottom line profit, and the return that LPs actually take home is likely to be lower than these APY numbers suggest. For more information on Profit Yield, see Shipyard’s previous blog posts on Profit Yield as the new DeFi standard and our method for calculating it.
Because Clipper pools do not suffer a temporary lossThe net trading profit (earnings yield) reported on the data dashboard is the actual annual profit that Clipper LPs sailed home with.
How does Clipper avoid temporary losses?
There is a common misconception that IL is completely unavoidable in DEX liquidity pools. This misconception stems from the fact that most DEXs these days use a type of AMM called a Constant Product Market Maker (CPMM). CPMMs are inherently vulnerable to temporary losses due to the way they balance liquidity pool assets. A temporary loss is a real risk that, despite its name, can have lasting and detrimental effects on LP returns.
More precisely, the price of tokens on CPMM-based DEXs is calculated according to a constant function. Impermanent losses are caused by arbitrageurs exploiting discrepancies between these prices and external market prices. This activity keeps CPMM prices in line with the rest of the market, but the profit made by the arbitrageurs is siphoned off the LP stocks. LPs recognize this loss when the value of the assets they recovered (at current market prices) when they removed their shares from the pool is less than if they had simply held them. It’s possible that the observed losses will be “volatile” if the price divergence reverses before the LP pulls back, but there’s no guarantee of this (and it often isn’t). The actual rate of return for LPs is a balance between temporary losses and cumulative returns, so an accurate APR must account for IL.
However, this risk can be avoided by using an alternative AMM design. Clipper’s Formula Market Maker (FMM) design bypasses transient losses with a price function that uses external market prices from decentralized oracles and token ratios in pools to balance assets, instead of the constant function that CPMMs use. The addition of price oracles ensures that Clipper’s prices are updated as external market prices change without the need for arbitrage trading. Clipper’s deliberately small pool sizes also deter arbitrageurs, while the Oracles update and its bot-blocking technology stop them altogether.
That doesn’t mean Clipper is always profitable; All revenue-generating opportunities come with some degree of risk. Clipper tracks the rebalanced portfolio you may have encountered in modern portfolio theory. This portfolio offers optimal risk-adjusted beta exposure while generating free alpha from volatility. The Nobel Prize was awarded for this approach in 1990.
The addition of the Comparable APY metric to Clipper’s data dashboard not only gives LPs an accurate picture of the actual profit they can expect, but also how much revenue Clipper’s FMM design is saving them on temporary losses. Clipper is designed to provide home-based crypto traders with the best possible swap prices. In order to achieve this, it is crucial to provide the Clipper LPs with the most transparent and accurate information possible, so that they can make the right decisions themselves.
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