The Double-Edged Sword of Perpetual Futures in Crypto Trading

When discussing crypto trading with experienced traders, the topic of perpetual futures, or 'perps,' inevitably comes up. These derivatives contracts allow traders to control large positions with minimal capital. Unlike standard futures, perps have no expiration date, making them a popular choice among traders. However, they also come with unique challenges, particularly regarding funding rates and liquidity. To better understand the pros and cons of perps, we spoke with traders who have thrived in this market. They highlighted the deep liquidity, low trading fees, and efficient margin usage as key advantages. Nevertheless, the recurring cost of keeping positions open, known as funding rates, is a significant concern. Traders worry about the unpredictability of these rates, which can add up over time. So, why do traders prefer perps? The answer lies in their necessity, particularly for altcoins with illiquid dated futures markets. Perps offer better fills, lower fees, and the ability to hold both long and short positions simultaneously. This is a significant advantage over traditional futures markets, where positions are typically netted by default. The traders we spoke with emphasized that margin efficiency is the primary draw to perps. With perps, traders can manage risk efficiently across different venues and tokens, as they require only a fraction of the position's value as collateral. The always-on nature of perps has also shifted price discovery to occur whenever news breaks, rather than only during market hours. However, this has also led to concerns about the funding rate, which can change over time and is typically charged every eight hours. Traders remain exposed to this floating rate while holding positions, with no built-in mechanism to lock it in. If the market doesn't move as expected, the funding rate can become a burden. The funding rate is unquantifiable at the point of trade and unhedgeable afterwards, making it a significant concern for traders. One trader noted that if you hold positions for long periods, the funding rate can potentially balloon to the point where a profitable trade loses money. The current bear market has also highlighted the risks associated with perps. The October 10 crash last year triggered widespread deleveraging across both losing and profitable positions, with exchanges socializing losses to protect their systems. However, one trader argued that the problem wasn't with perps themselves, but rather with the crypto exchange margin model. The distinction that matters is not between perpetual and dated futures, but rather whether you are facing a proper clearing house with a mutualized default fund or an exchange that socializes losses onto winners. Another trader offered an insight that inverts what most people assume about perp risk, stating that being long is the structurally safer side. This is because positive funding is easy to arbitrage away, whereas negative funding is more difficult to compress. The gap between perp and spot prices can persist, meaning funding rates can stay extremely negative for long stretches. The takeaway is that perps have democratized futures trading by solving the problem of access, cost, and margin efficiency, but they are not without unique pain points, namely the volatile funding-rate exposure that can't be quantified while taking bets and can't be hedged once the trade is on. As one trader put it, until there is a liquid dated curve in crypto, the whole market is carrying an interest rate exposure it cannot price and cannot hedge.