Making a crypto swap on a decentralized exchange only takes a few clicks. The convenience and reliability of these onchain swaps is made possible, in part, by “liquidity providers” who supply tokens to liquidity pools, which are a cornerstone of decentralized finance. These pools enable trading, help balance prices, and can reward providers in return.
Discover how liquidity provisioning (or “LPing”) on automated market makers works and how to weigh the potential rewards against the risks and responsibilities of managing a liquidity position.
What is liquidity provisioning?
Liquidity provisioning (or LPing) involves depositing a pair of tokens into a liquidity pool on a decentralized exchange like the Uniswap Protocol. These pools use smart contracts to enable permissionless, onchain trading.
By supplying liquidity, liquidity provisioners (or LPs) help ensure that traders can swap tokens efficiently, with minimal slippage when pool depth is high. In return, LPs earn a share of the trading fees — and in some cases, additional rewards.
Not all onchain activity involves LPs, but without them, the open markets that define DeFi wouldn’t exist.
How do I become a liquidity provider on Uniswap?
Anyone can LP on Uniswap. There’s no minimum deposit required, and it’s easy to get started with just a pair of tokens. Some users add a little liquidity to learn, while others build more active strategies.
Becoming a liquidity provider starts with choosing a pool and depositing two tokens — like USDC and ETH. The amounts you deposit will be equal in market value. To LP on the Uniswap Protocol, this can be done directly through the Uniswap Web App.
Once deposited, the tokens sit in a smart contract and provide liquidity for other users’ swaps. Every time someone trades against the pool, each LP that has contributed to the pool earns a portion of the trading fees, proportional to their share of the total liquidity.
LPs can add, remove, or adjust their position at any time — and they can collect their earned fees whenever they choose.
Evaluating LP rewards and mitigating risks
Providing liquidity comes with tradeoffs, and understanding them can help you make smarter decisions if you choose to LP.
1. Impermanent loss. When the price of one token in your pair changes relative to the other, your position may be worth less than if you had simply held both tokens. Fees can help offset this, but not always. This loss, however, only becomes permanent if you withdraw your liquidity while prices are still out of balance.
2. Market volatility. Sharp price swings can increase the likelihood and impact of impermanent loss — which can be more common in volatile or uncorrelated pairs.
3. Fee variability. LPs earn a portion of trading fees, but earnings depend on how much trading occurs — and whether your position is active within the pool’s price range.
4. Price range exposure. On Uniswap v3 and v4, you only earn LP rewards when the market price stays within your selected range. If the price moves out of range, your position may stop earning fees until you adjust it. In an earlier version of the Uniswap Protocol, v2, liquidity is always active across all price levels, and custom ranges are not available.
More considerations for participation in onchain markets
With the right approach, LPing becomes a strategic way to participate in onchain markets. A few more considerations:
- Choose token pairs you understand. Get familiar with each token’s market dynamics — like what drives its price, how volatile it tends to be, and how it's used onchain.
- Look for pools with steady trading and tokens that tend to move together in price. These pairs — for example, many stable-stable pairs — often earn more consistent fees and are less likely to experience large impermanent losses.
- Use platforms that offer control, transparency, and secure pools. The Uniswap Web App lets you track performance, adjust your range, collect fees, and exit your position at any time.
- Adjust your position based on how you think the market will move. Tighter ranges concentrate your capital and can earn more fees — but they stop earning if the price moves out of range. Learn how concentrated liquidity works →
With a thoughtful setup and a bit of maintenance, LPing can be a practical way to participate in DeFi markets — and earn along the way. As with trading or any other DeFi activity, take time to understand what you’re participating in and do your own research.
Explore pools on the Uniswap Protocol
Anyone with a pair of tokens can provide liquidity.
The Uniswap Protocol is entirely permissionless and open to all. With the Uniswap Web App, you can start LPing in minutes, monitor your positions, and adjust or withdraw liquidity whenever you like.
Frequently asked questions
What are LP rewards in DeFi?
LP rewards are earned by users who supply token pairs to liquidity pools on decentralized exchanges. These rewards typically come from trading fees.
How do I become a liquidity provider?
You can become an LP by choosing a pool and depositing two tokens of equal market value. This can be done directly through the Uniswap Web App.
Do LPs earn rewards all the time?
In Uniswap v3 and v4, LPs only earn rewards when the market price stays within their selected range. In v2, liquidity is active across all price levels by default.
What risks come with providing liquidity?
Risks include impermanent loss, market volatility, and fee variability. If the price moves out of your selected range in v3 or v4, your position may stop earning fees until you adjust it.
