💰What is CLMM?

A Concentrated Liquidity Market Maker (CLMM) enhances traditional liquidity models by enabling liquidity providers (LPs) to allocate their assets within a specified price range, where they can be more effectively utilized. Unlike conventional Automated Market Makers (AMMs) that spread liquidity evenly across an infinite price range, CLMMs focus liquidity within a narrower band, improving the efficiency of pooled funds in the market or exchange.

LPs can select a precise price range to provide liquidity, allowing them to earn fees based on their proportional liquidity at the prevailing market price. As long as the market price remains within the selected range, LPs can earn fees. However, if the price moves outside this range, it can result in potential losses, akin to those seen in active market-making within a traditional order book market. For example, if liquidity is provided in the range of $50 to $100, the tokens are active within this band until they are withdrawn.

In this system, tokens are used more efficiently since the liquidity range is concentrated rather than spread from zero to infinity, as in AMMs. The yield remains comparable to the token supply within the same price range. The range is divided into 'ticks,' with each tick representing values distributed evenly within the range. For example, in a $30 to $50 range, ticks might be at $31, $32, etc. LPs can withdraw their liquidity and earn fees as long as the market price remains within the chosen range.

In practice, a position of $1,000 USDT in a range could equate to a proportional position in DAI tokens, analogous to liquidity staking where tokens locked in proof-of-stake blockchains are used for liquidity and lending on a decentralized exchange (DEX). CLMMs represent a next-generation, optimized form of AMM that offers greater flexibility and efficiency.

This model enhances the allocation of liquidity, providing significant benefits for LPs and investors. It enables earning rewards with fewer tokens and reduces slippage. Regardless of liquidity flow, whether high or low, traders can generate returns by concentrating their liquidity in a specific price range.