Besides impermanent losses, there are other risks you have to consider before providing liquidity.

  1. Smart contract vulnerabilities and hacking

    In the DeFi mining ecosystem, there are inevitably smart contract loopholes. Some DeFi protocols might be launched without security audits. Even if the general security audit is conducted, the smart contract loopholes still exist.

    In the eyes of hackers, the price of each DeFi protocol ranges from millions of dollars to hundreds of millions of dollars. This is attractive to them. In the event of a hack, all funds in the pledge pool may return to zero. According to PeckShield's statistics, in the first quarter of 2021 alone, there were 43 DeFi security incidents, causing losses of more than US$612 million, a year-on-year increase of 94%.

  2. Smart contract risk

    The smart contract code is immutable and operates exactly as specified. However, for this reason, if a smart contract has man-made or non-man-made loopholes, it can be exploited without recourse. Although such things are not common, they do happen, and they happen all the time.

    Smart contract auditing has reduced the risk of loopholes in contract code to a certain extent. At present, the main participants in the field of contract auditing include Quantstamp, PeckShield Inc., Chainsulting, Open Zeppelin, ConsenSys Diligence, Trail of Bits, CertiK etc. However, it should be noted that the contract cannot be guaranteed to be 100% safe after being audited, and risks should be carefully assessed before investing.

  3. Some developers are anonymous

    Some liquidity platforms are developed and maintained by anonymous people. Even if you know the identity of the developers, it is very unlikely that your investment is protected by the present laws.

    Be wary of projects where the developers have permission to change the rules governing the pool. Sometimes, developers can have an admin key or some other privileged access within the smart contract code. This can enable them to potentially do something malicious, like taking control of the funds in the pool. 

    Another thing worth paying attention to is whether the private key is multi-signed. Previously, SushiSwap's private key was only held by Sushi Chef. Later, it became multi-signed, and the rug-pull risk was reduced.

  4. Change of terms and conditions

    The LP developers can change the terms and conditions without seeking your approval.

  5. Fluctuation of returns

    You might have decided joining a liquidity pool after seeing the lucrative interest. A few days after joining, the rate might fall to a level which you are unable to accept. Be reminded that the figure is changing all the time. The APY of many projects is very high at the beginning but it gets lower after a while. The main reason is that the price of mining coins has fallen. Also, more and more people have poured into mining. The most important thing here is to judge whether the project is supported by relatively long-term fundamentals, which is similar to buying a company's stock.

  6. Gas fees

    For anyone who has engaged in liquidity mining, the gas fee is a problem that you can't ignore at all. Providing liquidity to a fund pool is often accompanied by huge gas costs. You can either wait for the gas fee to decrease or accept high transaction costs. This risk cannot be ignored as most DeFi protocols run on the Ethereum blockchain.

    While the gas fee in Binance Smart Chain Network can be as low as a few cents (such as $0.30~$1.00 for swapping, staking or providing liquidity in PancakeSwap), the gas fee in Ethereum Network can go insanely high. The users of ShibaSwap have been complaining about this. Swapping, staking or providing liquidity in ShibaSwap can easily cost a gas fee of over $20.

    Hopefully with the upcoming ETH 2.0, the gas fee of Ethereum Network will be significantly reduced.

    When you consider your actions, you can check the current gas price at  Gas Now.

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