Capital Efficiency

Capital Efficiency is arguably the greatest feature of Concentrated Liquidity pools. In simple terms liquidity providers can provide a lot less capital for potentially the same reward they would have gotten with Standard Liquidity pools. This is accomplished by allowing providers to specify the lower and upper bounds (the range) of asset price ranges for which their capital will be made available when providing liquidity.

Traditional liquidity pools such as VaporDex's Standard Liquidity pools work on an unbounded range. Meaning that no matter what the price of the assets are in the pool the liquidity will be made available for the purposes of any given trade. The consequence of this infinitely unbounded range is that the capital is very inefficient because it has to be distributed evenly across the entire the lower and upper bounds (0 to infinity). With Concentrated Liquidity pools the liquidity is only made available for a specified range so there less "wasted" capital for prices the assets may never reach.

This maybe easier to understand using an example:

Let's say that 95% of all $VAPE trades are made when the price of vape is between $.50 and $.85.

Suppose Ren supplies $10K in a V1 style $VAPE/$USDC liquidity pool.

Also suppose Defi supplies $1200 in a V2 style $VAPE/$USDC liquidity pool and sets the lower and upper bounds to $.50 and $.85

As long as $VAPE is trading between $.50-$.85 then Ren and Defi will get the same amount of fees but Defi only had to supply a fraction of the capital that Ren did. Now if the price of $VAPE goes above or below that range then Ren would get all of the trading fees but that is only 5% of trading and he had to provide 88% more capital to get that. Very inefficient!

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