How a Chance Encounter on a Hong Kong Hike Revolutionized Crypto Trading

The concept of a perpetual swap, also known as a perpetual future or 'perp,' was born out of a problem that had been plaguing BitMEX. Despite offering various futures contracts with different expiry dates, customers continued to express frustration over their positions being closed without warning. They desired a product that combined the benefits of spot trading with the leverage of derivatives. Delo's conversation with the trader, Bavik, led to a breakthrough. 'What if a future never expired?' Delo asked, to which Bavik replied that it would be worth infinity from a mathematical standpoint. However, Bavik also proposed a solution: charge traders the bitcoin overnight rate. This idea laid the foundation for the perpetual swap, a financial product that would go on to become one of the most significant innovations of the 21st century. The perpetual swap was launched by BitMEX in May 2016, with a core mechanic that involved a futures contract with no expiry date, anchored to the spot price through a daily funding rate. Longs paid shorts, or vice versa, depending on whether the swap was trading above or below spot. Initially, the funding rate was derived from third-party lending markets, but this approach eventually proved inadequate. As Bitcoin's price rose in 2016 and 2017, demand for long exposure on BitMEX overwhelmed the funding mechanism, causing the swap to trade at a persistent premium to spot. To address this issue, Delo and his team introduced a dynamic funding rate that looked inward at how the swap was trading rather than relying on external lending markets. This solution involved measuring the gap between the swap and spot prices over an eight-hour window and using this implied basis to calculate the annualized rate. The new funding rate mechanism was a game-changer, providing market makers with notice of how the rate would be calculated and when it would be charged. This, in turn, created a dynamic equilibrium that kept the swap price anchored to the spot price. Today, the perpetual swap is a cornerstone of cryptocurrency trading, with every major derivatives exchange in the world using a variation of the funding rate mechanism developed by Delo. The product's success has been staggering, with estimates suggesting that it generates $40-50 trillion in turnover annually. As traditional finance regulators begin to take notice of the perpetual swap, it is likely that this innovative financial product will continue to shape the future of trading.