A perpetual futures contract is a derivative that never matures. Traders open positions that remain active until they choose to close them or until forced liquidation occurs. Each contract references an underlying asset such as Bitcoin, crude oil, or a stock index. The quoted price tracks the spot price of that asset, but deviations occur. A built in funding-rate mechanism corrects deviations by transferring value between long and short holders every eight hours on most exchanges.
The contract price is marked to the spot price through the funding rate. When the contract trades above the spot price, long holders pay short holders. When it trades below, short holders pay long holders. The payment size equals the notional value of the position multiplied by the funding rate. The rate itself derives from two components – an interest rate that reflects the cost of borrowing the underlying asset, and a premium index that measures the percentage gap between the contract mid-price and the spot index. Exchanges publish the exact formula, which normally includes a cap and a floor to prevent extreme payments.
Because the contract has no expiry, traders avoid the operational burden of rolling positions forward each quarter; they also avoid the price jumps that accompany traditional futures on expiry day. The absence of a settlement date makes the instrument attractive to cryptocurrency traders who wish to maintain directional exposure for weeks or months without interruption.
Leverage magnifies both profit and loss. A trader posts a fraction of the position value as margin. If the mark price moves against the position and the margin balance falls below the maintenance threshold, the exchange liquidates the position automatically. The liquidation engine closes the position at the bankruptcy price and transfers any remaining margin to an insurance fund. High leverage therefore demands continuous monitoring of margin levels and prompt action to add collateral or reduce size.
Funding Rate in Detail
The funding rate recalibrates every eight hours at 00:00, 08:00 along with 16:00 UTC on most platforms. Some venues use one hour or two hour intervals. The rate is expressed as an eight hourly percentage. A rate of 0.01 % means that a trader with a $100 000 long position pays $10 to a trader with a $100 000 short position at the funding timestamp. The exchange merely routes the payment – it does not collect fees from the transfer.
The interest rate component of the formula reflects the cost of capital. For Bitcoin perpetuals, the rate is often set at 0.01 % per eight hours, which annualizes to 10.95 %. The premium index measures the percentage by which the contract mid price deviates from the spot index. If the contract trades 0.05 % above the spot index and the interest rate is 0.01 %, the funding rate equals 0.06 %. If the contract trades 0.03 % below the spot index, the funding rate equals – 0.02 % – shorts pay longs.
Exchanges impose limits on the funding rate to prevent market disruption. A typical cap is 0.75 % per eight hours. When the rate hits the cap, arbitrageurs step in to exploit the premium or discount, thereby narrowing the gap between the contract price and the spot price.
Core Features
No expiry date – Positions remain open indefinitely – eliminating the need to roll contracts.
Funding rate – A peer-to-peer transfer that aligns the contract price with the spot price.
Leverage – Traders post margin as low as 1 % of the notional value – controlling a position one hundred times larger than the capital deployed. Leverage amplifies gains and losses proportionally.
Cash settlement – All profits or losses settle in the quote currency. No physical delivery of barrels of oil, bushels of wheat, or Bitcoin occurs.
Liquidation engine – If the margin balance drops below the maintenance requirement, the exchange closes the position at the market price. Any remaining margin transfers to an insurance fund that absorbs losses from bankrupt positions.
Trading Strategies
Directional speculation – A trader who expects the price of Ethereum to rise buys a perpetual futures contract. If the price increases by 5 %, the trader earns 5 % on the notional value, multiplied by the leverage ratio. A 10Ã leveraged position yields a 50 % return on margin. A 5 % adverse move triggers a 50 % loss.
Trend following – Traders identify sustained upward or downward momentum using moving averages or breakout levels. They enter long positions during uptrends and short positions during downtrends – they exit when momentum reverses – capturing the bulk of the price move.
Arbitrage – When the perpetual futures price diverges from the spot price, traders buy the cheaper instrument and sell the more expensive one. As an example, if the Bitcoin perpetual trades $100 above the spot price, a trader sells the perpetual and buys spot Bitcoin. When the prices converge, the trader closes both legs for a risk free profit minus transaction costs.
Hedging – A miner who expects to receive Bitcoin in thirty days sells a perpetual futures contract to lock in the current price. If the price falls, the loss on the physical Bitcoin is offset by the gain on the short perpetual. If the price rises, the gain on the physical Bitcoin is offset by the loss on the short perpetual. The miner achieves price certainty without transferring Bitcoin until the coins are mined.
Advantages and Drawbacks
Advantages
Indefinite duration – Traders hold positions for as long as they wish, subject to margin requirements.
Deep liquidity – Major cryptocurrency exchanges report daily volume in the billions of US dollars for Bitcoin but also Ethereum perpetuals – enabling large trades with minimal slippage.
Leverage – A small deposit controls a large position – increasing capital efficiency.
Drawbacks
Liquidation risk – Leverage magnifies losses. A 1 % adverse move at 100Ã leverage wipes out the entire margin.
Funding cost – A trader who holds a position for weeks pays or receives funding every eight hours. A consistently negative funding rate erodes the profit of a long position. A consistently positive funding rate erodes the profit of a short position.
Regulatory uncertainty – Many exchanges operate from offshore jurisdictions. Traders must assess counterparty risk and the legal framework governing the platform.
Historical Timeline
Robert Shiller outlined the concept of perpetual claims in a 1993 academic paper. He proposed a contract that would track the cash flows of illiquid assets such as real estate without requiring physical ownership. The idea remained theoretical until 2016, when the cryptocurrency exchange BitMEX listed the first Bitcoin perpetual futures contract. The contract quickly gained traction among traders who valued the absence of expiry dates and the ability to apply high leverage. Other exchanges followed, and by 2024 the combined open interest across all Bitcoin perpetuals exceeded twenty billion US dollars.
Regulatory Environment
Perpetual futures on cryptocurrencies trade almost exclusively on offshore exchanges. The Commodity Futures Trading Commission in the United States has not approved any domestic venue for retail trading of crypto perpetuals. Traders in the United States access the products through offshore entities that do not accept US customers, or through decentralized protocols that operate without a central intermediary. Each jurisdiction imposes its own licensing, capital in addition to reporting requirements. Traders must verify the regulatory status of the exchange and the legal protections available in case of default.
Practical Example
A trader deposits 0.01 Bitcoin, worth $400 at a price of $40 000 per Bitcoin, into an account that offers 50Ã leverage. The trader sells one Bitcoin perpetual futures contract at $40 000 – establishing a short position with a notional value of $40 000. The required initial margin is 2 % of $40 000, or $800. The trader has deposited only $400 – the position is immediately at risk of liquidation if the price rises.
The funding rate is +0.015 % per eight hours. Because the trader is short, the trader receives 0.015 % of $40 000, or $6, every eight hours from long holders. Over one week, the trader collects $6 Ã 3 Ã 7 = $126, provided the rate remains unchanged.
If the Bitcoin price falls to $38 000, the trader buys back the contract – closing the position. The profit equals ($40 000 – $38 000) Ã 1 Bitcoin = $2 000. The return on the $400 margin equals 500 %. If the price rises to $42 000, the loss equals $2 000 – wiping out the entire margin and triggering liquidation.
Conclusion
Perpetual futures combine the price exposure of a spot position with the leverage of a futures contract, but without the constraint of an expiry date. The funding rate mechanism keeps the contract price aligned with the spot price through peer-to-peer transfers. Traders use the instrument for speculation, arbitrage next to hedging. High leverage offers the potential for large gains, yet liquidation looms if the market moves against the position. Traders who understand the mechanics, monitor margin levels, and manage risk can incorporate perpetual futures into a diversified trading approach.
