The Dual Nature of Perpetual Futures: Benefits and Drawbacks According to Crypto Traders

When discussing cryptocurrency trading with experienced traders, the conversation often revolves around perpetual futures, or 'perps' - a type of derivative contract that enables traders to control large positions with minimal account holdings. Perps function similarly to standard futures but lack an expiry date. For traders of alternative cryptocurrencies, perps are often the sole avenue for derivatives trading, as dated futures for these coins are typically illiquid and the spot market is not a viable option for those who don't plan to hold. CoinDesk spoke with traders who have thrived in the perpetual futures market to understand what sets perps apart from other derivatives, how they cater to the needs of both institutional and individual traders, and the costs associated with perps trading. The responses were overwhelmingly positive, with traders praising perps for their deep liquidity, low trading fees, and efficient margin usage, which refers to the amount of trading exposure achievable per unit of collateral posted. However, traders also expressed concerns about the funding rates, a recurring cost for maintaining open positions, akin to an interest charge that accrues over time. The reason perps have become so popular, with daily volumes exceeding $200 billion, is largely a matter of necessity rather than choice. Lucas Krenn, a derivatives trader at market-making firm STS Digital, noted that outside of bitcoin and ether, dated futures lack sufficient liquidity, making perps the primary tool for crypto-native firms. Dated futures are less popular due to the costs associated with replacing them at expiry, a process that also affects the efficiency of futures-based ETFs. Perps offer better liquidity, allowing for large buy and sell orders to be absorbed at stable prices, unlike standard dated futures which can be heavily influenced by a few large orders, leading to price slippage. Kenneth Ong, an independent trader with extensive experience in perps, highlighted the advantages of perpetual futures from a retail trader's perspective, including superior order execution, lower fees, and the ability to hold both long and short positions simultaneously via hedge mode. This feature is particularly beneficial as it allows traders to maintain separate positions without them being netted against each other, a significant advantage over regulated venues like CME. Ong and Krenn both emphasized that margin efficiency is a key draw to perps, enabling traders to manage risk effectively across different venues and tokens. Because perps require only a fraction of the position's value as collateral, traders can split their capital across multiple venues and still maintain meaningful positions. The perpetual nature of perps has also shifted price discovery to occur around the clock, rather than being limited to traditional market hours. This was evident during the Iran conflict, where tokenized oil trading experienced a surge in volume over a weekend, with much of the price reaction occurring before traditional markets opened. Both traders believe that the use of perps will continue to expand into new asset classes, with Ong suggesting that tokenized oil trading is a preview of what's to come for other commodities. However, they also cautioned about the funding rate, which can become a significant burden if not properly managed. Unlike dated futures contracts, which have a fixed interest rate, perpetual futures contracts have a funding rate that changes over time and is typically charged every eight hours, leaving traders exposed to a floating rate with no mechanism to lock it in. This can lead to unforeseen costs, especially if the market doesn't move as anticipated. The funding rate is a concern because it is unquantifiable at the point of trade and cannot be hedged afterwards, making it a significant risk for traders. Ong warned that if positions are held for extended periods, the funding rate can potentially erase profits from an otherwise successful trade. The issue of funding rates is further complicated by the lack of a liquid dated curve in crypto, which means the entire market is carrying an interest rate exposure that it cannot accurately price or hedge. In conclusion, while perps have democratized futures trading by addressing issues of access, cost, and margin efficiency, they are not without their unique challenges, particularly the volatile funding-rate exposure that cannot be quantified or hedged.