LP Token

An LP token, short for liquidity provider token, is a token a user receives when depositing assets into a liquidity pool (see Kaavon's "Liquidity Pool" glossary definition), representing that user's proportional share of ownership in the pool's total holdings. As the pool earns trading fees over time, the value of each LP token typically grows relative to the originally deposited assets, letting a holder redeem their LP tokens later for a proportional share of the pool's current holdings, including accumulated fees.

LP tokens are themselves ordinary, transferable tokens, which means they can often be used elsewhere in DeFi — for example, deposited into a yield farming (see Kaavon's "Yield Farming" glossary definition) program to earn additional rewards on top of the underlying pool's trading fees, or used as collateral to borrow against. This composability is a major reason LP tokens became a foundational building block across DeFi, though it also means an LP token's value is exposed both to the underlying pool's performance, including impermanent loss (see Kaavon's dedicated glossary entry), and to the risk of whatever additional protocol the LP token itself gets deposited into.