Liquidity pool

How it works

Liquidity providers deposit equal value of both tokens and receive LP tokens representing their share, earning a portion of swap fees proportional to that share.

At launch, the project is usually the seed provider, and the initial reserve ratio it sets determines the opening price. Every trade that shifts the reserves also shifts the rate.

Design consequence

In a constant-product pool, a trade that shifts one reserve by x percent moves the price by roughly 2x percent. A $10K sell in a $200K pool (5% of reserves) moves price down about 10%. The same $10K sell in a $1M pool (1% of reserves) moves it about 2%. Pool depth is the direct lever on volatility per unit of trade size.

Example

A project allocating 3% of total supply to initial liquidity at a $30M FDV seeds roughly $900K. If the effective sellable float is $500K of motivated sellers, the pool can absorb that pressure with about 50% price movement in a worst case. Whether that is acceptable depends on the design criteria, but the number is knowable before launch.

Common mistake

Teams allocate pool liquidity as a percentage of raise without stress-testing it against trade sizes. A $2M raise seeding 2% of proceeds ($40K) into a pool on a $20M FDV creates a pool so shallow that any meaningful buy or sell causes disorderly price movement. Pool sizing must follow the trade-size model, not allocation conventions.