A liquidity pool is a shared pot of two or more tokens locked in a smart contractSmart contractA program that runs on a blockchain and automatically carries out what it was written to do once certain conditions are met.. Instead of a buyer finding a seller, the buyer trades directly with the pool. Pools like these are the foundation of most decentralised exchangesDecentralised exchange (DEX)An exchange run by smart contracts, where people swap crypto straight from their own wallets with no company in the middle..
How does a pool work?
Most pools hold two tokens, for example ether and USDC, with an equal value of each. Anyone can add tokens to a pool and is then called a liquidity provider, or LP. In return they receive an LP token, a kind of receipt for their share of the pool. In some systems the receipt is an NFT.
When someone swaps ether for USDC, they put ether into the pool and take USDC out. That changes the ratio between the two tokens, and with it the price. The mechanism that sets the price is called an automated market makerAutomated market maker (AMM)A smart contract that prices tokens on a decentralised exchange with a fixed formula, based on how much of each token sits in the pool. (AMM). The pool works like an unstaffed currency exchange that its users keep stocked themselves.
A small fee is charged on every trade. All or most of it goes to the people who funded the pool, in proportion to their share. When they withdraw, they hand back their LP tokens and receive their part of the pool.
What are the risks?
The fees are not risk-free income. If the price of one token moves a lot against the other, your share of the pool can end up worth less than if you had simply held the tokens. This is called impermanent lossImpermanent lossThe loss that occurs when token prices in a liquidity pool move apart, leaving your share worth less than if you had simply held the tokens..
On top of that come bugs in smart contracts and scams, because anyone can create a pool for a new token. In small pools, large trades also move the price a lot. This is known as SlippageSlippageThe difference between the price you expected and the price your trade was actually carried out at..
Everything in Myntkaup Learn is written and regularly reviewed by the Myntkaup editorial team. It is for education and is not investment advice. Editorial policy. Updated 18 October 2026.