Uniswap V3 - Concentrated Liquidity

• V3 is an enhancement version of V2 to maximise returns for traders & liquidity providers (LPs)

• enable different pool configurations for pairs with different volatility

  • high volatility pairs - unstable tokens subject to market fluctuations

  • low volatility pairs - stablecoins USDC-USDT, pegged/wrapped pairs ETH-stETH

Concentrated Liquidity

• concentrated liquidity in V3 is splitting V2's infinite LP pool into many ranged LP pool

• limitations in Uniswap V2

  • users deposit 100 USDC-100 USDT to a liquidity pool, but only a tiny fraction of that capital would be actively traded within the fluctuation between 0.99-1.01, causing low capital efficiency

• enhancements in Uniswap V3

  • users are allowed to customise concentrated liquidity for example between 0.99 & 1.01 to enable higher capital exposure

  • whenever USDT price of USDC moves to 1.02, users will hold 0 USDC-200 USDT

  • if price moves outside of the custom range, it leads to a bigger impermanent loss until price moves back in range compared with V2

  • if price moves within the custom range, same amount of capital has greater efficiency (being used more frequently) than providing liquidity to entire price range, getting more LP fee as well

Range Limit Orders

• advanced limit order is enabled by concentrated liquidity feature

• allow LPs to provide single token X as liquidity in a custom price range

• when price of token Y enters into the specified range, token X is sold for Y along the range & earn LP fees

• for example, LP deposits USDT to USDT-USDC at range 1.01-1.02, all USDT will be converted to USDC when USDC goes over 1.02, also removed from liquidity pool

Non-Fungible Liquidity

• in V2, fungible liquidity means whole pool is operated under a unity of rules

• in V3, non-fungible liquidity is enabled by concentrated liquidity that LPs have full control on liquidity range & strarege of LP fee

Flexible Fees

• V3 offers LPs three separate fee tiers per pair in 0.05%, 0.30% & 1.00%

• non-correlated pairs with higher volatility in higher LPs fee tier

• correlated pairs with minimal volatility in lower LPs fee tier

• enables LPs' strategy in selecting higher fee & lower volume or vice versa

Liquidity provider strategy

• given we have 1000 USD value of asset in ETH & USDC

• LP fees are accountable into the total asset value

1. holding $1000 ETH - long term ETH growth without LP impermanent loss

2. holding $1000 USDC - expect long term downside of the whole market

3. holding $500 ETH & $500 USDC - expose half capital to market fluctuations

4. provide 500:500 ETH-USDC liquidity - earn LP fee with slowly uprising of ETH

5. provide concentrated liquidity within range - earn LP fee in a sideways market

• in bullish market, strategy performance will be 1 > 3 > 4 > 5 > 2

• in a sideways market, strategy performance will be 5 > 4 > 3 = 2 = 1

• in bearish market, strategy performance will be 2 > 3 > 4 > 5 = > 1

Uniswap V1, V2, V3 Comparison

	V1	V2	V3
Supported Token	ERC-ERC20 swap only, ERC20-ERC20 requires 2 swaps	support ERC20-ERC20 direct swap	ERC20-ERC20 ERC721
Swap Type	Typical token X to token y swap	Flash swap - receive output token before the contract receive send token	Flash swap - receive output token before the contract receive send token
Price Oracle	-	time-weighted average price (TWAP) oracles	enhanced calculation & gas efficiency of TWAP oracles
	infinite price range liquidity	infinite price range liquidity	concentrated liquidity within a custom range
Fee	0.3% for liquidity providers	0.25% for liquidity providers 0.05% portocol fee	3 Tiers for different pools: 0.05% 0.30% 1.00%