The Dual Nature of Perpetual Futures: Benefits and Drawbacks for Crypto Traders

When discussing crypto trading with experienced traders, perpetual futures, or 'perps,' are often the first topic that comes up. These contracts allow traders to control large positions with minimal capital, and unlike standard futures, they have no expiration date. For traders of alternative cryptocurrencies, perps are frequently the only accessible derivatives market, as dated futures for these coins are often illiquid and the spot market is primarily used for long-term holdings. CoinDesk spoke with traders who have thrived in the perps market to understand what sets them apart from other derivatives, how they cater to both institutional and retail traders, and the costs associated with perps trading. The traders' responses highlighted the benefits of perps, including their deep liquidity, low trading fees, and efficient margin usage, which enables traders to achieve considerable exposure with minimal collateral. However, the traders also expressed concerns about the funding rates, which are recurring costs for maintaining open positions and can significantly impact trading expenses. The reason for the popularity of perps, which have a daily trading volume exceeding $200 billion, is largely due to their necessity, according to Lucas Krenn, a derivatives trader at STS Digital. Krenn explained that outside of bitcoin and ether, dated futures lack sufficient liquidity, making perps the primary tool for crypto-native firms. Independent trader Kenneth Ong shared a similar perspective, emphasizing the advantages of perps for retail traders, including better execution prices, lower fees, and the ability to hold both long and short positions simultaneously. Ong noted that he transitioned from spot trading to perps due to these benefits and now views spot trading as primarily for long-term holdings. Both Krenn and Ong stressed that margin efficiency is a significant draw to perps, as they require only a fraction of the position's value as collateral, allowing traders to split their capital across multiple venues and tokens. The perpetual nature of perps has also shifted price discovery to a 24/7 process, with traders reacting to news and events as they occur, rather than being limited to traditional market hours. This has been observed in the trading of tokenized oil, which saw significant activity during the Iran conflict, with prices adjusting in the perps market before the official markets opened. Krenn and Ong expect the use of perps to expand into new asset classes, with Ong predicting that the increased liquidity in commodities and equities will reduce the need for dated futures. However, the traders also cautioned about the funding rate, which can be a significant burden for traders, particularly if they hold positions for extended periods. The funding rate, which is typically charged every eight hours, can be unquantifiable and unhedgeable, making it a concern for traders. Krenn and Ong emphasized that the funding rate is a more significant issue than liquidations, which are often cited as a major risk in perps trading. The traders also addressed the criticism of perps following the October 10 crash, which led to widespread deleveraging and liquidations. Krenn argued that the issue was not with perps themselves but rather with the crypto exchange margin model, which socializes losses onto winners. He noted that dated futures on the same venues face the same issues, and the key distinction is whether the exchange has a proper clearing house with a mutualized default fund. Krenn also offered an insight into the asymmetry of perp risk, suggesting that being long is structurally safer due to the ease of arbitraging away positive funding. However, when the funding rate is negative, the arbitrage is more complex, and the gap between perp and spot prices can persist, leading to extremely negative funding rates. This asymmetry is often not accounted for in risk models, according to Krenn. In conclusion, perps have democratized futures trading by providing access, reducing costs, and improving margin efficiency, but they also introduce unique challenges, such as volatile funding-rate exposure. As Krenn noted, until a liquid dated curve is established in crypto, the market will continue to carry an interest rate exposure that cannot be priced or hedged, making funding a 'tax' that everyone pays for access to this leveraged market.