What Actually Happens Under the Hood When You Provide Liquidity on Uniswap v3?

[nihalsari]

Providing liquidity on Uniswap v3 isn’t just tossing tokens into a pool — it’s closer to writing an options strategy with custom risk parameters. Here’s what really happens:

Concentrated Liquidity

Unlike v2, where LPs spread assets across the entire price curve, v3 lets you choose a range (e.g., ETH $2k–3k).

Your liquidity only earns fees when trades happen inside your chosen band.

If the price moves out of range, your position turns into 100% of the less valuable token (classic “stuck LP” problem).

Impermanent Loss = Hidden Risk

LPs aren’t just earning fees — they’re exposed to divergence loss when asset prices shift.

Example: ETH doubles while USDC stays flat → you end up with less ETH than if you just held.

In v3, impermanent loss can be amplified if your range is narrow.

🧮 The Math Under the Hood

Liquidity is represented as virtual orders on the constant product curve.

Every tick in v3 is a discrete step, and liquidity is distributed across these ticks.

Fees (0.05%, 0.3%, 1%) are accumulated at each tick, and LPs claim pro-rata.

️ Strategies Advanced LPs Use

Delta-neutral farming: hedge exposure using perps or options.

Wide vs. narrow bands: wide ranges for passive LPs, narrow for active managers with bots.

Auto-compounding vaults: protocols like Arrakis or Gamma automate rebalance.

Bottom line: LPing in v3 is not “free yield” — it’s active risk management, closer to being a market maker than a farmer.

[Nahid10]

@nihalsari
Really clear explanation! Too many new LPs think Uniswap v3 is just passive farming when it’s actually active risk management. The “options-like” angle is spot on — setting ranges is basically choosing your payoff structure. Tools like Gamma or Arrakis are lifesavers for retail who can’t rebalance 24/7.

[jacson4]

Great writeup. One thing I’d add: impermanent loss often kills more LPs than they realize, especially in trending markets. Sometimes just holding ETH or stables outperforms narrow-range LPing unless you’re hedging with perps. v3 is powerful, but unless you treat it like market-making, it can turn into “impermanent loss farming.”