The Double-Edged Sword of Perpetual Futures in Crypto Trading

When discussing crypto trading with experienced traders, the conversation often revolves around perpetual futures, or 'perps' – a type of derivatives contract that enables traders to control large positions with minimal capital. Unlike standard futures contracts, perps do not have an expiration date, making them a popular choice among traders. For altcoin traders, perps are often the only viable option for derivatives trading, as dated futures contracts for these assets are typically illiquid. The spot market, on the other hand, is often an afterthought for traders who do not plan to hold onto their assets long-term. To better understand the appeal of perps, we spoke with traders who have found success in the perpetual futures market. They highlighted the benefits of perps, including their deep liquidity, low trading fees, and efficient margin usage. However, they also expressed concerns over the funding rates associated with perps, which can add up over time and eat into trading profits. So, why do traders prefer perps? According to Lucas Krenn, a derivatives trader at STS Digital, perps are the 'plumbing underneath everything' the firm does. For crypto-native firms, perps are not just one tool among many, but rather the primary tool for trading. Krenn explained that dated futures contracts are often illiquid, making it difficult to execute large trades without significantly impacting the market price. In contrast, perps offer better liquidity, allowing traders to buy and sell large quantities of assets without disrupting the market. Kenneth Ong, an independent trader, shared a similar perspective, citing 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. This is particularly useful for traders who want to hedge their bets or speculate on price movements. Both Krenn and Ong emphasized the importance of margin efficiency in perps, which allows traders to control large positions with minimal capital. This is particularly useful for traders who want to manage risk across multiple venues and assets. However, the funding rates associated with perps can be a significant concern. Unlike dated futures contracts, which have a fixed interest rate, perps have a funding rate that changes over time and is typically charged every eight hours. This can make it difficult for traders to predict their costs and manage their risk. Krenn and Ong both expressed concerns over the funding rate, with Krenn noting that it is 'unquantifiable at the point of trade and unhedgeable afterwards.' Ong was more blunt, stating that the funding rate can 'potentially balloon to the point where a profitable trade loses money.' Despite these concerns, perps remain a popular choice among traders. The always-on nature of perps has shifted price discovery to occur whenever news breaks, rather than just during traditional market hours. This has created new opportunities for traders to react to market developments and capitalize on price movements. As the crypto market continues to evolve, it is likely that perps will play an increasingly important role in shaping price discovery and trading activity. However, traders must be aware of the unique risks associated with perps, including the funding rate, and develop strategies to manage these risks effectively. In the end, perps offer a powerful tool for traders, but they are not without their challenges. As Krenn noted, 'until there is a liquid dated curve in crypto, the whole market is carrying an interest rate exposure it cannot price and cannot hedge.' For now, funding is the tax that everyone pays for easy access to this leveraged market.