The Dominance of Perpetual Futures in Crypto Markets and Beyond

The process of setting crypto prices is often misunderstood, with many believing it is driven by spot trading, where buyers and sellers meet on an exchange. However, the reality is that perpetual futures, also known as perpetual swaps or 'perps,' have been the primary driver of price discovery in the crypto market for years. These contracts, which are leverage-friendly and never expire, account for approximately 93% of all crypto futures volume, with daily perp volume often surpassing the spot market. A traditional futures contract has a settlement date, when its price is forced to meet the spot price of the underlying asset, but perpetual futures do not have this constraint, allowing them to be held indefinitely by paying a funding rate that varies daily. Research has shown that perpetual swaps on unregulated venues are the strongest instruments for bitcoin price discovery, with regulated futures and US spot exchanges reacting to, rather than leading, these moves. The evidence suggests that the derivatives market is where prices are made, with spot markets following. This phenomenon is not limited to crypto, as seen in the recent SpaceX IPO, where perpetual futures contracts accurately predicted the company's stock price before it listed. The perpetual market was able to price SpaceX's demand more accurately than traditional banks, highlighting the potential of these contracts in price discovery. However, the limitations of perpetual futures, particularly their inability to account for supply, were also evident in the subsequent price movements of SpaceX's stock. The influence of perpetual futures is a significant factor in understanding the dynamics of crypto and traditional markets, and their role in price discovery is likely to continue to grow.