LP tokens and alternatives

LP tokens

An LP token represents your ownership in an LP pool.

In some protocols, those who deposit into liquidity pools receive what is called an “LP token” to represent their deposit.

This LP token represents the pool share amount and ownership of said share and gives the holder rights to redeem/withdraw from the LP.

Furthermore, the token can be sent to another address, can be traded, and sometimes can be deposited into another smart contract to earn additional incentives. 

A popular DEX that utilizes LP tokens is Uniswap. When depositing liquidity into a Uniswap pool, the liquidity provider will receive LP tokens that proportionally correspond to the pooler’s share of that pool. In addition to confirming one’s pool share, the distributed LP tokens will also track a pooler’s fees earned from pooling. When going to withdraw from a Uniswap pool, a pooler simply needs to redeem their LP tokens for their original assets and earned fees. Other DEXs that employ LP tokens like Uniswap are Sushi and Pancakeswap. 

It should be noted that not all liquidity pools utilize LP tokens. For example, THORChain’s design records the LP depositor’s address on the blockchain and so does not issue any LP tokens. Therefore, there is no way to send your “pool share” to another address, except by first withdrawing, then using the new address to make a fresh deposit into a LP. From THORChain’s design point-of-view, this reduces the risk from certain attack vectors. Only the wallet that deposited is allowed to withdraw it, based on the on-chain data about the deposit.

Both methods, LP tokens and depositor addresses, achieve the same goal of confirming and validating one’s pool share and earned fees, as well as endowing the ability to withdraw one’s assets from the pool. It is simply a network decision as to which method the liquidity pools will use to track pool share.