Uncovering Perps: The Most Popular Trading Instrument in Crypto

Perpetual swaps, or 'perps', have emerged as the go-to trading instrument in the crypto market, processing enormous volumes and offering leveraged exposure to assets like bitcoin. Despite their widespread use, the inner workings of perps remain poorly understood. To grasp the concept of perps, it's essential to consider their origins. In traditional finance, investors typically gain leveraged exposure to an asset through futures contracts, which expire on a specific date. However, this approach created persistent issues in the early days of crypto, including basis and contract expirations that closed positions unexpectedly. BitMEX addressed these problems by introducing the perpetual swap in 2016, a derivative contract that tracks an asset's price indefinitely without expiring. This innovation eliminated the need for rolling contracts and created a self-correcting equilibrium through a funding rate mechanism. Every eight hours, traders on opposite sides of the market exchange payments, with the rate calculated based on the deviation from the spot price. This mechanism has become the industry standard, used by major derivatives exchanges worldwide. Perps also offer significant leverage, allowing traders to control large positions with minimal capital. To manage the associated risks, exchanges employ automated liquidation systems that close positions before they can incur losses. Today, perps are the primary venue for price discovery in crypto, with regulators exploring their application to traditional assets. The structure developed by BitMEX has proven resilient, and perps have become one of the most widely traded financial products globally.