The Dominance of Perpetual Futures in Crypto Markets: A Lesson from SpaceX

The conventional understanding of how cryptocurrency prices are determined often involves spot trading, where buyers and sellers meet on an exchange, and the last trade sets the price. However, this has not been the actual mechanism for years, especially for bitcoin, ether, and the broader crypto market. Perpetual futures, also known as perpetual swaps or 'perps,' are contracts that never expire and are highly leveraged, now accounting for roughly 93% of all crypto futures volume, with daily volumes often surpassing those of the underlying spot market. Unlike traditional futures contracts, which have a settlement date and are forced to meet the spot price of the underlying asset, perpetual futures can be held indefinitely by paying a funding rate that varies daily. Research has shown that derivatives markets, particularly perpetual swaps on unregulated venues, are the strongest instruments for bitcoin price discovery, with regulated futures and U.S. spot exchanges reacting to rather than leading these moves. A study published in the Journal of Financial Markets found that perpetual swaps were the primary source of price formation for bitcoin, while other work identified Binance's perpetual market as the leading venue for price discovery across the fragmented crypto landscape. Although the evidence is not conclusive, with some studies suggesting that spot markets still lead at certain frequencies or during times of stress, the overall direction of the literature points towards derivatives markets as the primary location for price discovery. The funding rate, which is the cost of holding a perpetual contract and varies daily, acts as both the anchor that keeps the contract price aligned with the underlying spot price and a real-time indicator of market sentiment. This is why some traders closely monitor the funding rate alongside the price. In the case of SpaceX, which had never sold a public share, traders on various crypto platforms were able to buy and sell exposure to the company through pre-IPO perpetual futures contracts before its record $75 billion initial public offering. These contracts, which were structured to track an implied valuation rather than a share price, allowed traders to predict the company's valuation more accurately than Wall Street, with the perpetual futures market quoting the equivalent of roughly $170 a share the night before SpaceX listed, compared to the $135 IPO price set by underwriters. The stock's first-day performance, with an intraday high above $176 and a closing price of $161, up 19% from the IPO price, closely matched the predictions of the perpetual futures market. This example highlights the influence of perpetual futures in price discovery, even for assets outside the traditional crypto market. However, it also demonstrates the limitations of perpetual futures in pricing supply, as seen in the subsequent decline of SpaceX's stock price following the unlocking of insider shares. In conclusion, the derivatives market, particularly perpetual futures, has become the primary venue for price discovery in crypto markets, with spot markets following. This trend is expected to continue, with perpetual futures contracts remaining a key driver of price movements in the crypto space.