I’m trying to understand the economics of liquidity pools, and where the high APRs come from.
For example, I am providing liquidity to a MATIC-QUICK pool on Quickswap. For being in the pool, I earn transaction fees, but also may lose money in impermanent loss.
However, I then can put my MATIC-QUICK LP tokens in vault on Polycat, and that earns an additional 0.09% daily APR. [Nacho]( breaks down this 0.09% APR as coming from LP fees and and from the Pool.
What is the value of my LP tokens to Nacho? Are there additional LP fees that Polycat can earn on my LP tokens, beyond what I am paid via just participating in the pool on quickswap?
Any documentation folks could point me to would be greatly appreciated!
As you describe, there are two components: fees and incentive rewards. Fees are earned on trades done within the pool, incentive rewards are paid by the platform that is interested in you parking your liquidity with them.
Why do they pay you extra?
* They want to grow their funds, so you could consider part of this a marketing “cost” (see point 4).
* They could potentially get a cut of the fees too, in which case they eventually earn it back.
* Some platforms take this one step further and use LP tokens as a first step into “stealing” liquidity, read more about the origins of Sushiswap for that.
* They often have tokenomics that allow them to freely pay you in their own currency. That is, they are not really paying you something costly to them, just their own tokens. These tokens do have a value because of all the liquidity and attention the platform is receiving (see point 1).
The interaction between point 1 and 4 is either good marketing, or can have some Ponzi characteristics to it (more growth => higher value of tokens => attract more growth => higher value of tokens => … => burst). Nothing to worry about as long as you convert whatever they give you on a regular basis to something more decent.
So, the additional APRs you get on top of the fees come from the way a lot of these tokens are being created. It’s basically printing money out of thin air and then distributing it as rewards. This means it’s often a trap, as the higher the APR, the higher the inflation of the token, as its perceived value is being shared among the total number of tokens. The only way it’s actually a real gain is if the market cap of the token increases proportionally to the APR, which can happen for good projects, I’m not necessarily saying it’s a bad approach, it’s just how it works.
If you are interested in other Crypto like defi farming and all then you have better option in your box , There is lot of defi farming project which is giving good returns to the Holder (apy) not every high apy giving project are riskier to invest , when we talk about profitable things we have to consider risk too uniswap, sushiswap are best at the space for now and reimagined finance too , Reimagined finance is best at risk management their diversified portfolio makes farming stable and growing .
Transaction fees is my understanding.