Concentrated Liquidity
Optimizing Capital Deployment in FanX V3
Concentrated liquidity is one of the core innovations of FanX V3, designed to address the inefficiencies of earlier automated market maker (AMM) models. Instead of spreading liquidity evenly across the entire price spectrum—from zero to infinity—liquidity providers (LPs) can now allocate their capital within a chosen, finite price range.
This change fundamentally alters the economics of liquidity provision. In earlier versions, liquidity was distributed uniformly across all possible prices, meaning that in most pools, only a very small fraction of capital was actively involved in trades at any given time. For example, in a stablecoin pair where the price rarely moves outside a narrow band, the majority of liquidity remained unused and did not generate fees. By allowing LPs to concentrate their funds in the most active trading zones, FanX V3 increases the efficiency of every unit of capital deployed.
How Concentrated Liquidity Works
When an LP chooses to provide liquidity in FanX V3, they specify two parameters: a lower price bound and an upper price bound. These bounds define the range within which their liquidity is active. If the market price remains within this range, the LP’s assets are used to facilitate trades, and they earn transaction fees in proportion to their share of the active liquidity.
If the price moves outside this range, the LP’s position becomes inactive: one of the two assets in the pair is fully converted into the other, and no further fees are earned until the price re-enters the chosen range. This mechanism allows LPs to target specific market conditions but also requires them to monitor their positions and adjust ranges if they want to maintain fee generation over time.
Ticks and Price Granularity
Price ranges in FanX V3 are defined in terms of discrete steps called ticks. Each tick represents a fixed price increment determined by the pool’s fee tier and tick spacing configuration. LPs select a lower tick and an upper tick to set their range, and the AMM algorithm calculates how much of each token to deposit based on the current price relative to these boundaries.
Ticks serve as both a precision tool and a cost consideration: narrower ranges (fewer ticks) mean more concentrated liquidity and potentially higher fee returns, but they also increase the risk of the position becoming inactive if the price moves outside the band.
Advantages of Concentrated Liquidity
Higher Capital Efficiency By focusing liquidity where trading is most likely to occur, LPs can generate the same trading volume with significantly less capital, freeing the rest for other investments or strategies.
Deeper Liquidity in Active Ranges Traders benefit from reduced slippage when liquidity is concentrated around the current price, as more reserves are available to support large trades without causing significant price movement.
Increased Fee Potential A well-chosen range can significantly boost fee income compared to evenly distributed liquidity, especially in pairs with stable or predictable price behavior.
Flexible Strategy Design LPs can tailor their ranges to different goals—ultra-narrow ranges for aggressive fee farming in stable pairs, or wider ranges for less active but longer-term positioning.
Considerations and Trade-offs
While concentrated liquidity unlocks new possibilities, it also introduces new responsibilities for LPs:
Active Management: LPs may need to monitor and adjust ranges frequently, especially in volatile markets, to prevent their liquidity from going inactive.
Market Exposure Risk: When the price exits the chosen range, the LP’s position becomes fully composed of one asset, potentially resulting in missed fee opportunities and exposure to unwanted price risk.
Complexity: Managing multiple positions across various ranges can be more complex than the “set and forget” approach of earlier AMMs, requiring better tools, analytics, and execution strategies.
Impermanent Loss Dynamics: The mechanics of impermanent loss still apply, and in some cases can be magnified by the range selected.
Why It Matters
For protocols, traders, and LPs, concentrated liquidity in FanX V3 is a game-changer. It enables more efficient use of capital, reduces execution costs for traders, and opens the door for sophisticated liquidity management strategies. For integrated platforms like FanX, it provides the ability to design trading and liquidity provisioning flows that optimize returns and market depth simultaneously.
Last updated