🦔Delta Neutral Strategy
Hedging liquidity position is essential to make this Gamble into Investment.
There is super juicy swap fee revenue, and why do many people end up losing money by providing liquidity? Understanding the value transition of the Liquidity Position will help you understand the importance of hedging, primarily if you view liquidity provision as an investment.
When you provide liquidity to the ETH-USDC pool, the value of your liquidity position moves as follows as the ETH price changes.
If prices continually rise, you're liquidity position gets the small benefit of it. However, a price drop could lead to significant losses and fee revenue generally cannot overcome the decrease in position value. Defi users often end up with losses due to this divergence loss since the risk when the price drops is quite bigger than the benefit when the price rises, and predicting price movements – whether they'll go up or down – is inherently uncertain.
Now, let's see how it looks when we construct a hedge position for a liquidity position.
The risk of both sides is balanced out. That's all there is to it, but that's how we can finally determine the price range from volatility and make a profit forecast from trading volume.
Moreover, there is another very important benefit, the ability to establish profitability indicators.
This allows for more sophisticated and accurate strategies to be put together.
Now you understand the concept and the benefits of delta hedging!
If you want to know more, here is the detailed article written by the Orange Research team.
Pros & Cons
Delta Neutral Strategy works similarly to the short straddle strategy in TradFi, thus inheriting the same strength and weakness. The Delta Neutral strategy works best when volatility decreases since we are more likely can keep earning swap fee revenue for a longer time, but weak in the opposite situation when volatility gets bigger.
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