The Dominance of Perpetual Futures in Crypto Markets and Beyond

The process of setting crypto prices is often misunderstood, with many believing it involves spot trading on exchanges. However, the reality is that perpetual futures, or 'perps', have become the key drivers of price discovery in the crypto market, accounting for around 93% of all crypto futures volume. These contracts, which can be held indefinitely, have been shown to lead price movements, with research indicating that they are the primary source of price formation in the fragmented crypto landscape. The funding rate, which is the cost of holding a perp position, plays a crucial role in keeping the contract price anchored to the underlying asset and provides a live readout of market sentiment. A recent example of the influence of perps can be seen in the pre-IPO market for SpaceX, where perpetual futures contracts accurately predicted the company's first-day trading price, outperforming traditional Wall Street estimates. This highlights the growing importance of the derivatives market in price discovery, with spot markets following their lead. While perps are excellent at pricing demand, they are blind to supply, which can lead to significant price movements when supply shocks occur, as seen in the recent decline of SpaceX's stock price following the release of locked-up insider shares.