Delta-Neutral Strategy
Risk Category: Medium
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Risk Category: Medium
Last updated
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Impermanent loss remains one of the biggest challenges for liquidity providers (LPs) on concentrated liquidity automated market makers (CLAMMs). At Teahouse, we’ve rigorously experimented with various DeFi protocols and developed strategies to actively hedge against this risk, aiming to neutralize impermanent losses effectively. Our Delta-Neutral Strategy offers LPs more stable, predictable returns while preserving the efficiency of concentrated liquidity.
With our advanced margin trading platform, , short trading positions can be opened to hedge against the asset exposure in liquidity positions. This effectively acts as an “insurance” against impermanent loss, significantly reducing drawdowns during price rebalancing events.
By combining fee-generating LP positions with active hedging, the Delta-Neutral Strategy allows LPs to turn volatility into an advantage — capturing more swap fees during high-volume periods while limiting downside exposure.
Delta-Neutral Strategy earns swap fees while offsetting $ETH exposure via short hedges on Tea-REX and minimizes drawdowns by rebalancing on price moves or time intervals.
Backtests show stable net value and reduced drawdowns during volatile $ETH price swings.
The strategy captures trading fees while actively managing price risk, turning volatility into a source of steady yield.
In trading, “delta” refers to how sensitive a position is to changes in the price of an asset — such as $ETH. A delta-neutral strategy seeks to keep the overall portfolio’s exposure to those price changes close to zero. In this case, while the LP position has a long $ETH component, we offset it with a short hedge of equivalent size. This helps neutralize directional risk from market moves, hence the name “Delta-Neutral.”
Teahouse’s Delta-Neutral Strategy centers around earning swap fees from concentrated liquidity provisioning while neutralizing price exposure. The core mechanism involves deploying liquidity — such as in the $ETH–$USDC pool on Uniswap V3 — within a custom price range (e.g., ±10% from the current $ETH price). This setup allows LPs to earn swap fees from trades executed within the defined range.
However, providing liquidity in a pool like $ETH–$USDC inherently exposes the LP to price movements, especially the $ETH leg. To offset this, the strategy adds a delta-neutral overlay:
Liquidity is provided using $USDC and $ETH (as required by the selected price range), constrained to a custom range within the pool (e.g., Uniswap).
A short position of equivalent $ETH value is opened using a margin trading platform — such as Tea-REX — to counterbalance the LP’s net $ETH exposure.
Rebalancing is triggered when:
The price moves outside the selected LP range (requiring withdrawal and redeployment),
The price shifts beyond a predefined threshold (e.g., 3%), or
A set number of time intervals (bars) have elapsed since the last hedge update.
This combined approach allows the strategy to capture swap fees while greatly reducing the impact of directional market movements.
The strategy relies on three key parameters that determine how it reacts to market conditions:
Liquidity range: How wide (in percentage terms) the selected price band is around the current asset price (e.g., ±5%, ±10%). A narrower range may earn more fees but requires more frequent rebalancing.
Hedge price threshold: The percentage change in asset price that triggers an adjustment to the hedge (e.g., 1%, 3%, 5%).
Hedge rebalance frequency: The maximum number of time intervals (or “bars”) allowed to pass before rebalancing the hedge, even if no price threshold has been met (e.g., every 1, 6, or 12 bars).
By experimenting with different parameter combinations, finding a setup that achieves an optimal balance between risk and return is possible — capturing meaningful swap fees while keeping impermanent loss and unnecessary rebalancing in check.
We backtested the Delta-Neutral strategy from January 8, 2025, to March 15, 2025, assuming an initial capital of 1,000 $USDC. The backtest tracks the following metrics:
LP Value (with Swap Fees): The estimated $USDC value of the Uniswap LP position if withdrawn at each time point, including accumulated swap fees.
Hedge Value: The mark-to-market value of the short position, which fluctuates based on $ETH price movements.
Net Value: The combined value of the LP and hedge positions, representing the total portfolio value in $USDC.
$ETH Price: Displayed on a secondary axis for reference.
The chart below illustrates the strategy’s performance using one representative set of tuned parameters.
Green line: Uniswap LP position (including estimated fees)
Orange line: Short hedge value
Black dashed line: Delta-Neutral portfolio net value
Red line: $ETH price (secondary axis)
Net Value Stability: Despite a significant decline in $ETH price (red line), the net portfolio value (black dashed line) remained relatively stable, avoiding the drawdown typically seen in long-only LP positions.
Fee Generation: The LP portion (green line) continued to accumulate swap fees, though it still experienced some impermanent loss as the price moved.
Effective Hedging: The short hedge (orange line) offsets much of the $ETH downside, though it incurred short-term losses during brief upward price movements.
In short, the combination of concentrated liquidity provisioning (green) and active hedging (orange) proved effective at reducing drawdowns while preserving upside from trading fees.
The Delta-Neutral Strategy shows that concentrating liquidity within a defined price range — combined with active hedging of the resulting asset exposure — can significantly reduce directional risk while capturing meaningful swap fee income.
That said, the effectiveness of this strategy’s approach is highly dependent on key strategy parameters:
Liquidity range width: Wider ranges may experience fewer rebalances but typically collect fewer fees, while narrower ranges earn more but require more frequent maintenance.
Hedge threshold and rebalance frequency: These impact how closely the hedge tracks $ETH price movements, affecting both cost efficiency and overall PnL.
Realistic fee modeling: Accurate assumptions around swap fees, volume, and slippage are essential for realistic backtests and forward performance.
Proper tuning of these variables through backtesting is critical to strike the right balance between profitability, risk control, and operational efficiency. When optimized, the Delta-Neutral Strategy offers a powerful way to improve the stability of returns while navigating the volatility inherent in DeFi markets.
Teahouse currently deploys the LP leg of this strategy via on the SEI network.