The Double-Edged Sword of Perpetual Futures: Insights from Crypto Traders

When discussing cryptocurrency trading with experienced traders, the conversation often revolves around perpetual futures, or 'perps' – a type of derivatives contract that enables traders to control larger positions with less capital. Unlike traditional futures contracts, perps do not have an expiration date, making them a popular choice among traders. For altcoin traders, perps are often the only viable option for derivatives trading, as dated futures contracts for these assets are typically illiquid. The spot market, on the other hand, is often an afterthought for traders who do not plan to hold onto their assets long-term. To better understand the appeal of perps, we spoke with traders who have thrived in the perpetual futures market. They cited the deep liquidity, low trading fees, and efficient margin usage as key advantages. However, they also expressed concerns about the funding rates, which can add up over time and eat into their profits. So, why do traders prefer perps? According to Lucas Krenn, a derivatives trader at STS Digital, perps are the 'plumbing underneath everything' his firm does. 'Outside of bitcoin and ether, dated futures liquidity is thin to the point of being unusable,' he explained. 'Perps are not just one tool among several; for a crypto-native firm, they are the tool.' Krenn noted that dated futures contracts are not popular due to the costs associated with replacing them at expiration. This is also why futures-based ETFs tend to be less efficient than spot ETFs. Perps, on the other hand, offer better liquidity, allowing traders to execute large buy and sell orders at stable prices. Kenneth Ong, an independent trader, shared a similar perspective, highlighting the benefits of perps for retail traders. 'Perps offer better fills, lower fees, and the ability to run both long and short positions simultaneously,' he said. Ong started trading in the spot market but eventually shifted to perps due to their advantages. For him, the spot market is now primarily used for long-term holdings. Both Ong and Krenn emphasized the importance of margin efficiency in perps. With perps, traders can manage risk more effectively across different venues and tokens, as they require only a fraction of the position's value as collateral. This allows traders to split their capital across multiple venues and still maintain meaningful positions. The perpetual nature of perps has also shifted price discovery to occur around the clock, rather than just during market hours. Ong recalled an instance during the Iran conflict, where tokenized oil trading on Hyperliquid saw a surge in volume over a weekend. 'By Monday, a chunk of the repricing had already happened somewhere else,' he said. Krenn sees this mechanism playing out in perps tied to other traditional assets, such as tokenized equities. Building a proper tokenized equity product is challenging, as it requires recreating the full legal, operational, and regulatory machinery of traditional share ownership on-chain. Perps, on the other hand, sidestep these complexities and are more suitable for traders looking to trade rather than invest long-term. Both traders believe that the 'perpification' of various assets will gain momentum in the coming years. Ong noted that tokenized oil trading over the weekend is 'basically a preview' of what's to come for other commodities. As liquidity deepens across commodities and equities, it will become less necessary to use dated futures. However, there is a catch: the funding rate. The funding rate is a recurring cost for traders, which can add up over time and eat into their profits. Krenn and Ong expressed concerns about the funding rate, which can be volatile and unpredictable. A dated futures contract, on the other hand, provides a clear interest rate from the outset. With perps, the funding rate changes over time and is typically charged every eight hours, leaving traders exposed to a floating rate. If the market doesn't move as expected, the funding rate can become a significant burden. 'It's unquantifiable at the point of trade and unhedgeable afterwards,' Krenn said. Ong was more blunt: 'That funding's not just some tiny fee you can ignore. It's not. If you hold positions for long periods, it can potentially balloon to the point where a profitable trade loses money.' The issue of funding rates is particularly problematic during times of market stress. During the October 10 crash last year, exchanges socialized losses to protect their systems, leading to widespread deleveraging across both losing and profitable positions. Krenn argued that the problem was not with perps themselves, but rather with the crypto exchange margin model. 'It's not a perpetual problem; it's a crypto exchange margin model problem,' he said. 'Dated futures on those same venues sit behind the same insurance funds and the same deleveraging queue.' Krenn also pointed out that the distinction between perpetual and dated futures is not as important as whether traders are facing a proper clearing house with a mutualized default fund or an exchange that socializes losses onto winners. One key insight that Krenn shared is that being long is often the structurally safer side. Positive funding is easy to arbitrage away, as anyone holding stablecoins can buy spot and sell the perp, pocketing the spread. However, when the funding rate is negative, the arbitrage becomes more difficult, as it requires shorting the underlying token. This can be challenging, especially if the circulating supply is small and concentrated. As a result, the gap between perp and spot prices can persist, leading to extremely negative funding rates. 'The long side has a bounded cost and an unbounded upside. The short side has a bounded upside and an unbounded cost,' Krenn explained. 'That asymmetry sits in very few risk models.' In conclusion, perps have democratized futures trading by solving the problems of access, cost, and margin efficiency. However, they are not without unique pain points, such as the volatile funding-rate exposure that can't be quantified or hedged. As Krenn put it: 'Until there is a liquid dated curve in crypto, the whole market is carrying an interest rate exposure it cannot price and cannot hedge.' For now, funding is the tax that everyone pays for easy access to this leveraged market.