When providing liquidity for a SynLev exchange pair it is important to understand a few key concepts: what LP ETH is doing, share price, counterparty risk. And understand how these factors work together in a few examples.
What ETH LP Does
Every time ETH is deposited as LP it creates “virtual” bull and bear tokens that are owned by all liquidity providers. These “virtual” tokens live in the vault contract as serve to stabilize the asset pair. Virtual bull and bear tokens are balanced so that there is a 1:1 ratio of bull to bear token equity. This ensures that liquidity providers are never favoring bullish or bearish price movement. This re balancing is done every time liquidity is added or removed.
Share Price
When adding liquidity users are exchanging ETH for LP Shares. LP shares represent the ownership of “virtual” bull & bear tokens and fees generated by trading activity (.2%).
Counterparty Risk (sort of)
Everyone engaging in any activity on the SynLev exchange is taking on counterparty risk. When buying a 3X ETH/USD BEAR token that token holder is acting as the counterparty of the 3X ETH/USD BULL token holder. Meaning all gains of a BULL token must come from the losses of a BEAR token.
How LP Share Price Fluctuates by Example
To better explain the risk and implications of providing liquidity we will look at 3 examples of how LP share price can increase, decrease, or stay static. For these examples we use the 3X ETH/USD as an example. In these examples we are also ignoring the .2% fees in trading fees liquidity providers earn.
Example 1: Outstanding Bull Tokens > Outstanding Bear Tokens and ETH Price is Increasing = LP Share Price Down
In this case market sentiment is bullish and more bull tokens have been minted on the SynLev Exchange. Currently there are 100 ETH in outstanding bull tokens, 50 ETH in outstanding bear tokens, and 400 ETH in liquidity (200 ETH bull & 200 ETH bear virtual tokens). Due to +1% ETH price increase bear equity falls 3.3%(8.25 ETH), due to a leverage level of 3.3X. Taking bull token equity to 102.75 ETH, bear token equity to 48.35 ETH, and liquidity to 398.9 ETH (205.5 ETH bull & 193.4 ETH bear virtual tokens). LP share price drops by .275%.
Example 2: Outstanding Bull Tokens > Outstanding Bear Tokens and ETH Price is Decreasing = LP Share Price Up
In this case market sentiment is bullish and more bull tokens have been minted on the SynLev Exchange. Currently there are 100 ETH in outstanding bull tokens, 50 ETH in outstanding bear tokens, and 400 ETH in liquidity (200 ETH bull & 200 ETH bear virtual tokens). Due to -1% ETH price increase bull equity falls 2.75%(8.25 ETH), due to a leverage level of 2.75X. Taking bull token equity to 97.25 ETH, bear token equity to 51.65 ETH, and liquidity to 401.1 ETH (194.5 ETH bull & 206.6 ETH bear virtual tokens). LP share price increases by .275%.
Example 3: Outstanding Bull Tokens = Outstanding Bear Tokens
In this case market sentiment is neutral. Currently there are 100 ETH in outstanding bull tokens, 100 ETH in outstanding bear tokens, and 400 ETH in liquidity (200 ETH bull & 200 ETH bear virtual tokens). Due to +1% ETH price increase bear token equity falls 3% (9 ETH), due to a leverage level of 3X. Taking bull token equity to 103 ETH, bear token equity to 97 ETH, and liquidity to 400 ETH (206 ETH bull & 194 ETH bear virtual tokens). LP share price stays the same, regardless of positive or negative market movement.
Take Away
We can take away from the above examples that liquidity providers are effectively hedged against market sentiment. SynLev assets have a slight bias against market sentiment. This is in an effort to both balance bull/bear tokens as a whole and ensure that liquidity providers over the long term are very slightly favored.
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