How to Add NFT/ADA Liquidity
Background: What do LPs do on fungible DEXes?
Liquidity providers (LPs) are essential to the smooth functioning of decentralized exchanges (DEXes). By supplying liquidity, they create the market that allows users to seamlessly trade assets without needing a direct counterparty. Without the contributions of LPs, trading opportunities would be limited, and price volatility would increase, making it more difficult for users to exchange assets.
On a fungible DEX, like Uniswap or Minswap, liquidity providers contribute by depositing equal values of two assets that have a price correlation (for example, pairing $CSWAP with ADA) into a liquidity pool. This pool allows other users to trade between those two assets, with the LPs earning a portion of the fees every time a trade is made. In this sense, liquidity providers act as decentralized market makers, facilitating transactions and earning rewards for providing liquidity.
As users trade, the ratio of assets in the liquidity pool shifts. When someone buys $CSWAP, the amount of $CSWAP in the pool decreases, and ADA increases. When $CSWAP is sold, the opposite happens: more $CSWAP enters the pool, and the amount of ADA decreases. In both cases, liquidity providers earn fees on these transactions, compensating them for the inherent risk of holding and managing these assets over time.
Being a liquidity provider works best under certain market conditions, which include:
High trading volume, leading to more fees earned by liquidity providers.
A stable price relationship between the two paired assets.
Confidence that both assets are stable or appreciating in value, as LPs must hold both assets in the pool as their values fluctuate.
One important risk that LPs need to understand is impermanent loss. This occurs when the value of assets in a liquidity pool changes compared to simply holding those assets separately, especially in highly volatile markets. Read more about impermanent loss here.
Despite the risks, liquidity providers are incentivized by the opportunity to earn fees. In sideways or bull markets, LPs can perform quite well, particularly if the market experiences high volatility and trading volume. Tokens like $CSWAP and ADA or pairing an NFT collection with ADA on an NFT DEX.
What does it mean to provide NFT/ADA liquidity on CSWAP
Providing liquidity for NFT/ADA pairs works similarly to fungible tokens, but there are important differences on CSWAP’s NFT DEX that users should be aware of.
Instead of pairing two fungible tokens, NFT liquidity pools are formed by pairing a group of NFTs (from the same collection) with a token, such as ADA. This creates liquidity for trading NFTs in a decentralized way, similar to token pairs on a fungible DEX.
Unlike most fungible DEXes, where equal values of both assets are required, NFT liquidity pools on CSWAP don’t need to be perfectly balanced. To ensure that there’s enough ADA liquidity for trading, users must contribute at least 25% of the floor price of the NFTs, or 1 NFT’s worth of ADA, whichever is greater. This prevents the pool from running out of ADA too quickly, creating healthier liquidity for the platform.
Example Strategies (Not Financial Advice)
DCA (Dollar Cost Average) Into a Collection (Buy NFTs) If a user expects NFT prices to decline in the short term but rise in the long term, they can supply ADA-only liquidity (offer-side only) for a collection. Other market participants might sell their NFTs into the pool in exchange for ADA, allowing the user to accumulate NFTs at a lower price. Once satisfied, the user can pull their liquidity and retrieve the NFTs. The user can set a lower curve and higher offer amount amount here if they want the offers to be filled more quickly.
DCA Out of a Collection (Sell NFTs) If a user is looking to sell a large number of NFTs and expects prices to increase soon, they can pair NFTs with the minimum required ADA. Price them attractively compared to other marketplaces and set a low curve percentage to encourage trades. This allows them to benefit from market volatility, and as the price rises, the pool will eventually consist mostly of ADA. At that point, the user can remove their liquidity, having earned fees along the way from trades and benefiting from short-term volatility.
Earn Fees in a Volatile but Sideways/Uptrending Market If the user believes a collection will experience high price volatility in the short term but are optimistic about the long-term value of both ADA and the NFTs, supply a mix of NFTs and ADA in a liquidity pool. Set a transaction fee of 2-5%, and use an exponential curve (a 5-15% range is a good guideline). Design the pool to ensure it doesn’t deplete NFTs too quickly by setting the curve percentage on the higher side. Also, make the pool competitive with other listings on marketplaces, either by having a better offer price, a better floor price, or ideally both. Higher bid-offer spreads (e.g., 20% or more) on other marketplaces give more room to position the pool attractively on both sides.
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