Market Neutral Liquidity Provision

Abstract

Automated Market Makers with concentrated liquidity have to date achieved market dominance among competing spot trading AMM models in Decentralized Finance. We shift the prevalent research focus on liquidity providers’ loss metrics, such as Impermanent Loss or Loss-Versus-Rebalancing, to a market neutral strategy. We derive a hedge portfolio which allows for concentrated liquidity provision while maintaining market neutrality. We present an example of the hedge portfolio and highlight the practical restrictions. The hedge portfolio consisting of options and futures requires a significant capital outlay compared to the amount of liquidity provided, but typically earns carry from futures contango.

Keywords

• Decentralized Finance (DeFi)
• Risk Management
• Liquidity Provision
• Automated Market Makers