Traditional Model
For the sake of completeness, this article wouldn’t be finished without looking at a liquidity provider that contributes two tokens in equal proportions to a traditional liquidity pool.
In our diagram, imagine a scenario where we have a 50–50 pool with 3 Token A and 4 Token B contributed entirely by a single liquidity provider. An outside trader performs a swap on this liquidity pool by swapping 2 Token B for 1 Token A and the final state of the pool after the swap is 2 Token A and 6 Token B. The initial value of the pool was $8 and the final value of the pool after the trade is $12 (The cumulative value of each respective token in the pool is $6). If the liquidity provider had not provided liquidity and instead held onto his tokens (3 Token A + 4 Token B), then the cumulative value would be $13.
The difference between the HODL value ($13) vs. the value of his tokens after the swap ($12) is $1. This $1 difference is what is known as divergence loss (or more colloquial as impermanent loss).
On Bancor 3, there are no dual-sided pool tokens. Imagine that an LP just provided the Token A token in the pool and the protocol provided the Token B. In this case, the $1 or ~7.7% of impermanent loss cost on a dual sided pool translates to a 33% deficit in Token A and a 50% surplus in Token B. Note, that even though token A is in deficit and token B is in surplus, the cumulative dollar value of each respective token is equivalent ($6 Token A vs $6 Token B).
There are some advantages from an LP perspective for a single side deposit model which includes:
Single asset exposure: a liquidity provider is not forced to sell half of their tokens to provide liquidity. Rather, they can be long on their token and not have to worry about being forcefully exposed to another token.
Capital efficiency: providing liquidity single sided means that half of your capital is freed up for other purposes. This means that you are more capital efficient as you can use this free liquidity for other yield generating activities.
Read the full article of Bancor 3 Mechanics here.
