Binance Liquid Swap Explained: How to Use It Easily and Earn Extra Income

Hello, this is Bitpunk. Today I'll explain what Binance Liquid Swap is, how to use it, and the risks involved! Through this post, you'll understand not only Binance Liquid Swap but also the core of the AMM (automated market maker) model that underpins DeFi projects!

What Is Binance Liquid Swap?

Let me explain Liquid Swap in simple terms. As the name suggests, it means swapping liquidity. Simply put, it works on almost the same principle as trading on an exchange.

For example, if you want to buy 1 bitcoin for $30,000, you log in to an exchange, pay $30,000 against the existing order book, and get 1 bitcoin, right? Take the order book out of that picture, and you have the Liquid Swap model.

So how can a market price form without an order book? I won't go into too much detail, but in short, the answer lies in the 'ratio' between the two assets.

Basically, systems like Liquid Swap (known as automated market makers, or AMMs) have a pool in which two assets are deposited. In other words, as we'll see in how to use Binance Liquid Swap, you deposit a pair of two assets into a specific pool.

Let's take the ETH/BUSD model as an example. Suppose that when the price of ETH is $1,000, BUSD is deposited alongside it at a 50:50 ratio. The price of ETH changes in real time, while BUSD keeps its value of $1, right?

So what happens if the price of ETH rises 10% on the market? Actually, nothing happens in the liquidity pool itself (of course, the price of the ETH deposited in the pool rises along with the market price, but according to the pool ratio, the value of ETH still keeps the weight it had at the time of deposit).

In other words, since this pool maintains a 50:50 ratio based on an ETH price of $1,000, if the price of ETH rises, you can swap BUSD for ETH in that pool and buy ETH 10% cheaper.

When this happens, the ratio of ETH to BUSD in the pool changes to 40:60, right? And the quick trader who bought the ETH can sell it on the market and make a 10% profit.

This is how Binance Liquid Swap works, and it is essentially how the AMMs of all DeFi projects work.

How to Use Binance Liquid Swap

Now that you understand Liquid Swap, it's time to use it. The purposes of using Liquid Swap can be broadly divided into two.

(1) Swapping coins in a pool

As we saw in the Liquid Swap example above, you can use a liquidity pool when the asset weights in the pool don't reflect a rise or fall in the price of the underlying asset, or when you want to exchange one asset for another.

In particular, if you simply want to swap into a specific coin, using Liquid Swap can be better than trading on the exchange. That's because, in a pool with a reasonable amount of liquidity, you can do it with lower slippage and fees.

(2) Depositing funds and earning interest

By now you'll understand that Liquid Swap is basically a model that only works if someone provides liquidity. So there should be some benefit for these liquidity providers too, right? Those who provide liquidity to Liquid Swap hold a share of the pool.

Through this, they receive a proportional share of the fees from trades made in each pool. In other words, if you keep funds deposited in Liquid Swap, you automatically earn interest-like income.

Using it is simple. First, go to the Binance Liquid Swap page. If you want to swap coins in a pool, go to the Swap page and select the coin pair you want to exchange.

If you want to add liquidity, you can add/redeem the asset pair you want in the 'Liquidity' tab. You can check the history of these actions in Swap History and My Share.

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Things to Watch Out for When Using Liquid Swap

AMM models like Liquid Swap may look like models where no one loses, but they carry risks, most notably impermanent loss and rug pulls.

Also, decentralized DeFi pools, as opposed to liquidity pools run by centralized exchanges like Binance, come with smart contract and security issues, so before using one, be sure to check whether it has been audited and whether you're investing more than you can afford. There are many pools boasting high yields, but it may be worth remembering that high returns always come with high risk.

For this reason, I only use Binance Liquid Swap. The yield may not be that high compared to other pools, but it's a satisfying yield relative to the risk.

Also, keep in mind that, in general, a swap fee is charged when you add or remove only one asset to or from a pool. In other words, you can add and redeem funds at any time, but like a deposit, you can only collect extra income at the stated yield after a certain period has passed.

That wraps up our look at Binance Liquid Swap!