Funding Rates and Perpetual Futures

A perpetual futures contract, often called a perp, is a derivative that lets traders gain exposure to an asset's price moves without owning the asset itself. The defining feature is in the name: it has no expiry date. A position can stay open indefinitely as long as there is enough collateral behind it. To keep the contract's price from drifting far away from the real price of the asset, perps rely on a mechanism called funding.

How perps differ from regular futures

A traditional futures contract is an agreement to trade on a specific date in the future. When that date arrives, the contract settles, and its price converges with the price of the underlying asset. Anyone who wants to stay in the trade has to close the old contract and open a new one, which is known as rolling over.

A perpetual contract has no settlement date, so nothing automatically pulls its price toward the asset's price. Without an extra mechanism, the contract could trade at a large premium or discount for a long time. Funding solves that problem.

Key terms

Long: a position that gains when the price rises.
Short: a position that gains when the price falls.
Margin: the collateral a trader posts to open a position.
Leverage: how many times larger the position is than the margin. With 100 dollars of margin and 10x leverage, for example, the position size is 1,000 dollars.
Index price: an average spot price of the asset, usually built from several exchanges.
Mark price: the fair value of the contract that the exchange uses to calculate profit, loss and liquidation risk.

What funding is

The funding rate determines periodic payments exchanged between long and short holders. In most cases these payments go directly between traders rather than to the exchange.

The logic works like this:

when the perp trades above the index price, the rate is usually positive and longs pay shorts;
when the perp trades below the index price, the rate is usually negative and shorts pay longs.

This creates a built-in incentive. When too many traders want to be long and the contract gets expensive relative to the asset, holding a long becomes more costly and holding a short becomes more attractive. That pressure nudges the contract price back toward the asset price.

Many exchanges settle funding every 8 hours, but the interval depends on the venue and the specific contract, and some settle more often. On many exchanges, only traders holding a position at the moment of settlement pay or receive the payment.

A worked example

This is a hypothetical example. Say a trader holds a long position worth 10,000 dollars, and the funding rate for the current period is 0.01%.

The payment is based on the position size, not the margin: 10,000 × 0.01% = 1 dollar.
The rate is positive, so the long pays 1 dollar and the shorts receive it.
If that rate stayed exactly the same and funding settled three times a day, the total would come to 3 dollars per day.

Rates change from one period to the next and can spike sharply, so over a long holding period funding can noticeably affect the final outcome.

What funding says about the market

The funding rate is often treated as a sentiment gauge for the derivatives market. A persistently high positive rate means longs dominate the perp market, while a negative rate means shorts do. This describes the current imbalance in positioning, but it does not predict where the price will go next: an imbalance can last a long time or unwind suddenly.

Risks of perpetual futures

Leverage magnifies gains and losses alike. At 10x leverage, a 1% price move changes the position's result by roughly 10% of the margin.
Liquidation. If losses eat into the margin past a certain level, the exchange forcibly closes the position, and the collateral can be lost entirely.
Funding costs. Holding a position for a long time means regular payments that add up.
Sudden moves. In a volatile market, prices can travel a long way in minutes.
Platform risk. Collateral sits on an exchange or in a smart contract, so problems at the venue affect traders' funds.
Rules vary. Funding intervals, formulas and liquidation rules differ between exchanges.

In short

A perpetual futures contract has no expiry date, so a position can stay open for as long as it is funded. To keep the contract's price close to the asset's price, longs and shorts regularly exchange payments called funding. Understanding this mechanism helps make sense of derivatives market news, but leveraged trading carries a high risk of losing the collateral.