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

When discussing crypto trading with experienced traders, perpetual futures, or 'perps,' are often the first topic that arises. These derivatives contracts allow traders to control large positions with minimal capital, and they have become a crucial tool for both retail and institutional traders. Unlike standard futures, perps do not have an expiration date, making them a popular choice for traders who want to maintain positions over an extended period. For altcoins, perps are often the only viable option for derivatives trading, as dated futures for these assets are typically illiquid. The spot market is also not a viable option for many traders, as it is often an afterthought for those who do not plan to hold their positions long-term. CoinDesk spoke with traders who have thrived in the perpetual futures market to understand what makes perps unique, how they cater to the needs of both institutional and retail traders, and the costs associated with perps trading. The traders' responses were overwhelmingly positive, citing the deep liquidity, low trading fees, and high margin efficiency of perps. However, they also expressed concerns about funding rates, which are recurring costs associated with maintaining open positions. Funding rates can be thought of as an interest charge that accumulates over time, and traders are worried about the potential impact on their profitability. So, why do traders prefer perps? According to Lucas Krenn, a derivatives trader at STS Digital, perps are the primary tool for crypto-native firms, as they offer a more efficient and cost-effective way to trade. Krenn explained that dated futures are often illiquid, making it difficult to execute large trades without significantly affecting the market price. In contrast, perps provide a more stable and liquid market, allowing traders to buy and sell with greater ease. Kenneth Ong, an independent trader, shared a similar perspective, highlighting the benefits of perps for retail traders. Ong noted that perps offer better fills, lower fees, and the ability to run both long and short positions simultaneously via hedge mode. This allows traders to hold bullish and bearish bets on the same token at the same time, which is not possible on regulated venues like the CME. Ong also emphasized the importance of margin efficiency, which is the ability to control large positions with minimal capital. Perps require only a fraction of the position's value as collateral, allowing traders to split their capital across multiple venues and tokens. The perpetual nature of perps has also shifted the way price discovery occurs. Instead of being limited to traditional market hours, price discovery now happens around the clock, as news and events can impact markets at any time. Ong recalled an experience during the Iran conflict, where the price of tokenized oil surged on a weekend, while traditional markets were closed. By the time traditional markets opened on Monday, the price had already adjusted, highlighting the importance of perps in facilitating price discovery. Krenn also noted that perps have become a powerful tool for trading various assets, including tokenized equities. By referencing the price of the underlying asset, perps can sidestep the complexities of traditional share ownership, making them an attractive option for traders. Both traders believe that the use of perps will continue to grow in the coming years, with Ong predicting that tokenized oil trading will become a precursor to similar trends in other commodities and equities. However, they also warned about the risks associated with funding rates. Unlike dated futures, which have a fixed interest rate, perps have a funding rate that changes over time and is typically charged every eight hours. This creates uncertainty and exposure for traders, as they cannot quantify the funding rate at the time of trade and cannot hedge against it once the position is open. Krenn described the funding rate as 'unquantifiable' and 'unhedgeable,' emphasizing the need for traders to be aware of this risk. Ong was more blunt, stating that the funding rate can 'balloon' and turn a profitable trade into a loss. The traders also discussed the myth of the 'safe trade,' highlighting the risks associated with liquidations and the socialization of losses on crypto exchanges. Krenn argued that the problem is not with perps themselves but rather with the crypto exchange margin model. He emphasized that dated futures on the same venues face similar risks, and the key distinction is whether the exchange has a proper clearing house with a mutualized default fund. Krenn also offered an insight into the asymmetry of perp risk, suggesting that being long is the structurally safer side. He explained that positive funding is easy to arbitrage away, but negative funding can persist, creating an asymmetry that few risk models account for. In conclusion, perps have democratized futures trading by providing access, cost, and margin efficiency, but they also come with unique pain points, such as volatile funding-rate exposure. As Krenn noted, until there is a liquid dated curve in crypto, the market will carry an interest rate exposure that cannot be priced or hedged. In the meantime, funding is the 'tax' that everyone pays for easy access to this leveraged market.