A liquidity bootstrapping pool is essentially a contract that manages a core pool containing tokens to be used on an exchange.
Liquidity bootstrapping pools (LBPs) are also known as configurable rights pools or smart pools. A smart pool essentially is a contract that manages a core pool that contains tokens to be used on an exchange. Unlike other shared pools, smart pool controllers have the power to change the specifications of the pool in limited ways. Hence, a smart pool is less trustless than a shared pool but at the same time, does not require the entire trust of a private pool.
The main inspiration behind an LBP is the ability to launch tokens with low capital requirements. To achieve this, a two-token pool is set up with a project and a collateral token. The weights are then set in favor of the project token (at first). Over time, a gradual flip occurs where the collateral coin is favored by the end of the token sale. Controllers can calibrate the sale to keep the price relatively stable to maximize revenue or can decline the price to the desired minimum (e.g. the initial coin offering price).
Another unique configuration of LBPs is the ability to pause swapping whenever needed. A pool controller may want to do this for a variety of reasons such as strong, unexpected demand driving up the token price or people selling tokens back to the pool for profit instead of buying them. When there is no incentive for a whale to profit from a “rug pull” or a similar technique that leads to instant price volatility, this allows for more fluid price discovery for the token. Despite the power to disable swapping, it’s quite rare since the pool operator is incentivized to leave swapping fully enabled as the main goal of a token sale is to sell tokens.
To use a hypothetical scenario, say a new project wants to hold a token sale while at the same time, build deep liquidity. They can do this by enabling a custom weight/ratio and also the ability to set a fee charged by the pool. This is ideal for distributing new tokens since the LBP controller only needs to provide the new tokens and a small portion of a second asset (e.g. DAI) to start the pool and initiate distribution. Since the parameters are set in a way that releases tokens slowly with changing weights, whales are forced to split their trades into separate, small traders over a longer period of time. Thus, making it easier for everyone else to get in during the course of the sale.
In some cases, whales may decide to wait until the very end of an LBP to buy large positions which then causes the price to pump quickly. However, due to the restrictions of the LBP, a rug pull event is near impossible, hence protecting the value of the token after the pump as the token price initially increases but continues to trickle downwards over time. This process continues until all tokens are sold and the token is evenly distributed effectively.
LBPs are a great solution for those who want to get tokens into the hands of a user base without the limitations of a rapidly increasing price curve. LBP represents the future of fundraising for small projects struggling with liquidity. Unless people buy the tokens faster than the price decreases, then it’s an efficient way to ensure maximum distribution.
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