The Dominance of Perpetual Futures in Bitcoin and Ether Markets

The process of setting crypto prices is often misunderstood, with many believing it is driven by spot trading. However, perpetual futures, also known as perpetual swaps or 'perps,' have become the key factor in determining prices for bitcoin, ether, and the broader crypto market. These contracts, which never expire, account for approximately 93% of all crypto futures volume, with daily volumes often surpassing those of the spot market. A traditional futures contract has a settlement date when its price must align with the spot price of the underlying asset. In contrast, perpetual futures can be held indefinitely, with the holder paying a funding rate that varies daily. Research has shown that perpetual swaps on unregulated venues are the strongest instruments for bitcoin price discovery, with regulated futures and US spot exchanges reacting to rather than leading these moves. The evidence suggests that the derivatives market, particularly perpetual futures, plays a significant role in price formation. 'Historically, we have seen perps leading mostly during bear market price rallies,' said Julio Moreno, head of research at CryptoQuant. The funding rate, which is paid by the crowded side of the trade every few hours, serves as a tether that keeps the contract price anchored to the underlying asset and provides a live readout of market sentiment. The funding rate is closely watched by traders, but its significance can be limited for those holding directional positions for extended periods. The recent initial public offering (IPO) of SpaceX, valued at $75 billion, demonstrated the influence of perpetual futures in pricing. Traders on various exchanges, including Binance, Coinbase, and Hyperliquid, bought and sold exposure to SpaceX through pre-IPO perpetual futures contracts. These contracts, which were structured to track an implied valuation rather than a share price, accurately predicted the company's first-day trading price. The perpetual market priced SpaceX above the $135 IPO price, allowing traders to profit from the gap between the perp and the eventual opening price. However, the stock price has since fallen over 40% from its peak, due to factors such as supply, which perpetual futures contracts are blind to. The SpaceX example highlights the dominance of perpetual futures in price discovery, even in traditional markets. As the crypto market continues to evolve, the influence of perpetual futures is likely to remain a key factor in shaping prices.