Concentrated liquidity
Why do you earn drastically more fees than on Uniswap v2 or PancakeSwap forks(Herbswap)
Last updated
Why do you earn drastically more fees than on Uniswap v2 or PancakeSwap forks(Herbswap)
Last updated
Uniswap v3 introduced concentrated liquidity. LPs no longer needed to always provide full-range liquidity, and as such the simple xy = k equation was not enough for most calculations. We ended up with more complex calculations - the specifics of which are not very relevant right now - to figure out things like output amounts and token ratios when adding liquidity.
But when we enable concentrated liquidity, and LPs must choose a "price range" where they're willing to add this liquidity, that implies that the curve must be finite now.
Going back to Uniswap v2 - since all LPs are adding full range liquidity over an infinite curve - the liquidity is spread something like the following diagram.
A flat amount of liquidity available throughout the curve regardless of what price tokens are currently trading at.
In v3, however, the liquidity is spread around more like this:
The LPs choose a "price range" where they add their liquidity. These "liquidity buckets" can overlap with each other, increasing the total amount of liquidity available with a subsection of their price ranges - and can be non-overlapping as well. These overlaps cause the spikes in liquidity what you saw on Fig.1
Since we don't need to spread all our liquidity across all price ranges, we can have more liquidity around the current prices that accrue more fees since the distribution of fees don't happen to all LPers on every transaction.
