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

In discussions about crypto trading, perpetual futures, or 'perps,' have become a central topic among savvy traders. These derivatives contracts enable traders to control larger positions with less capital, offering an advantage over traditional futures due to their lack of expiry dates. For altcoin traders, perps are often the sole derivatives avenue available, given the illiquidity of dated futures and the spot market's limitations for non-long-term holders. Traders who have thrived in the perpetual futures market highlight their deep liquidity, cheap trading fees, and superior margin efficiency as key attractions. However, they also point to funding rates as a significant concern, describing them as an interest charge that accrues over time and can substantially add to trading expenses. The necessity of perps in crypto trading is underscored by their average daily volume exceeding $200 billion, with traders citing their indispensable role in navigating the market. Lucas Krenn, a derivatives trader, notes that outside of bitcoin and ether, dated futures lack sufficient liquidity, making perps the primary tool for crypto-native firms. Kenneth Ong, an independent trader, echoes this sentiment from a retail perspective, praising perps for better order fills, lower fees, and the ability to simultaneously hold long and short positions via hedge mode. Both traders emphasize margin efficiency as a critical draw, allowing for the management of risk across different venues and tokens with less capital. The perpetual nature of perps has also shifted price discovery to a continuous process, reacting to news as it breaks, rather than being confined to traditional market hours. However, the funding rate poses a significant challenge, as it can change over time and is typically charged every eight hours, leaving traders exposed to a floating rate without a built-in mechanism to lock it in. This concern is compounded by the difficulty in quantifying and hedging the funding rate, which can potentially turn a profitable trade into a loss. The October 10 crash last year highlighted the risks associated with perps, particularly the socialization of losses by exchanges, which can lead to the force-closure of even profitable positions. Yet, traders argue that this issue stems from the crypto exchange margin model rather than perps themselves. An important insight offered by institutional trader Krenn is that being long is structurally safer due to the ease of arbitraging away positive funding, whereas negative funding rates can persist due to constrained arbitrage, leading to an asymmetry that few risk models account for. This asymmetry means that the long side has a bounded cost and unbounded upside, while the short side faces a bounded upside and unbounded cost. In conclusion, while perps have democratized access to futures trading by addressing issues of access, cost, and margin efficiency, they introduce unique challenges, notably the volatile and unquantifiable funding rate exposure that cannot be hedged once a trade is initiated.