Model-free Hedging of Impermanent Loss in Geometric Mean Market Makers

Masaaki Fukasawa, Basile Maire and Marcus Wunsch

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Abstract: We consider Geometric Mean Market Makers -- a special type of Decentralized Exchange -- with two types of users: liquidity takers and arbitrageurs. Liquidity takers trade at prices that can create arbitrage opportunities, while arbitrageurs align the exchange's price with the external market price. We show that in Geometric Mean Market Makers charging proportional transaction fees, Impermanent Loss can be super-hedged by a model-free rebalancing strategy. Moreover, we demonstrate that in such a DEX, the exchange rate is of finite variation, so that loss-versus-rebalancing (the shortfall of providing liquidity versus the corresponding constant-weights portfolio) vanishes.

Date: 2023-03
New Economics Papers: this item is included in nep-des
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