Understanding “Liquidity Protection” and the difference vs “Impermanent Loss Protection”

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When Bancor V2.1 was launched, the term “impermanent loss protection” was coined to define a mechanism that protects a liquidity provider from any shortfall due to impermanent loss or token(s) being sold off due to pool rebalancing which occurs when the price between two assets diverges.

In Bancor V2.1, all liquidity providers’ positions are non-fungible as the protocol has to keep track of unique information for each deposit to calculate the compensation owed to a liquidity provider at withdrawal. This overhead made Bancor V2.1 gas intensive. Bancor V3 greatly simplified the accounting process by maintaining a staking ledger which keeps track of all deposits and fees owed to liquidity providers. Separate from the staking ledger is the master vault which stores the current number of tokens across the Bancor V3 protocol. Therefore, figuring out deficits or surpluses across tokens is a matter of calculating the difference between these two data structures. If a pool is in surplus, liquidity providers get back their original deposit plus any earned fees in the token they provided. If the pool is in deficit, liquidity providers get a portion of their original deposit plus any earned fees in the token they provided and the rest in BNT (when BNT distribution was enabled).

While the intention and outcome of protecting liquidity providers’ liquidity remains the same, the term “impermanent loss protection” becomes less relevant going forward as Bancor evolves into a financial platform beyond a decentralized exchange). To that extent, a more accurate term to describe from a liquidity providers’ perspective the protection of their deposits will need to be adopted and “Liquidity Protection” is one that fits this bill. Over the course of the next few months, the term “impermanent loss protection” across all channels will be retired  as the Bancor community transitions to “liquidity protection” going forward.

In conclusion, the term “impermanent loss protection” that existed in Bancor V2.1 historically will be transitioned to  “Liquidity Protection” from now on in all Bancor developments moving forward. There is no expectation that all historical materials will be updated to reflect this change but anything new (i.e. Bancor V3 and up) should reflect this terminology.

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