The Double-Edged Sword of Perpetual Futures in Crypto Trading

When discussing crypto trading with experienced traders, the topic of perpetual futures, or 'perps,' often comes up. These derivatives contracts allow traders to control large positions with minimal capital. Perps function similarly to standard futures but without an expiry date. For traders of alternative cryptocurrencies, perps are often the only viable option for derivatives trading due to the illiquidity of dated futures and the spot market. CoinDesk spoke with traders who have thrived in the perpetual futures market to understand what sets perps apart from other derivatives, how they cater to the needs of both institutional and retail traders, and the costs associated with perps trading. The consensus among traders is that perps are popular due to their deep liquidity, low trading fees, and efficient margin usage. However, traders also expressed concerns over funding rates, which are recurring costs for maintaining open positions. Funding rates can be thought of as interest charges that accumulate over time. The traders interviewed highlighted that the daily volume of crypto perps exceeds $200 billion, attributing this to the necessity of using perps rather than a matter of choice. Lucas Krenn, a derivatives trader, noted that outside of bitcoin and ether, dated futures lack sufficient liquidity, making perps the primary tool for crypto-native firms. Another trader, Kenneth Ong, explained that perps offer better execution prices, lower fees, and the ability to hold both long and short positions simultaneously. Both Krenn and Ong emphasized that margin efficiency is a significant draw to perps, allowing traders to manage risk efficiently across different venues and tokens. Perps require only a fraction of the position's value as collateral, enabling traders to split their capital across multiple venues. The perpetual nature of perps has also shifted price discovery to occur around the clock, rather than only during market hours. Traders discussed the benefits of perps in trading tokenized assets, such as oil, and predicted that this trend would continue in the coming years. However, they also warned about the risks associated with funding rates, which can be unpredictable and burdensome for traders. The funding rate is typically charged every eight hours and can change over time, leaving traders exposed to floating rates without a built-in mechanism to lock them in. Krenn and Ong cautioned that funding rates can potentially negate profitable trades if not managed properly. The article also touched on the concept of 'perpification' of various assets, where perpetual futures contracts are used to trade traditional assets, such as equities, without the need for recreating the full legal and regulatory framework of traditional ownership. This mechanism is seen as powerful and likely to gain momentum in the future. In conclusion, while perps have democratized futures trading by addressing issues of access, cost, and margin efficiency, they also introduce unique challenges, particularly the volatile funding-rate exposure that cannot be quantified or hedged. As Krenn noted, until a liquid dated curve in crypto is established, the market will continue to carry an interest rate exposure that it cannot price or hedge, making funding a 'tax' that everyone pays for access to this leveraged market.