What Are Crypto Perpetual Swap Contracts And Funding Rates

Cryptocurrency perpetual swaps have rapidly become one of the most popular financial derivatives in the crypto trading ecosystem. For traders seeking exposure to crypto price movements without owning the underlying asset, perpetual contracts offer unique advantages in terms of flexibility, leverage, and liquidity. With $58.5 trillion in cumulative trading volume across the top 10 crypto exchanges in 2024, perpetual swaps have cemented their role as a cornerstone of the digital asset derivatives market. In this article, we explore how these contracts work, how they compare to other trading instruments, and what traders should consider when using them.

What Are Cryptocurrency Perpetual Swaps

A cryptocurrency perpetual swap, often simply called a perpetual contract, is a type of derivative that allows traders to speculate on the price of a digital asset without owning it. These contracts mirror traditional futures but differ in a key aspect—they have no expiration date. This means traders can hold their positions indefinitely, provided they maintain the required margin.

Perpetual swaps, first introduced in 2016 by BitMEX, are typically settled in stablecoins or other digital assets and track the price of an underlying cryptocurrency such as Bitcoin (BTC) or Ethereum (ETH). This allows traders to benefit from price movements in either direction through long or short positions.

Key Differences: Perpetual Swaps vs. Futures and Spot Trading

Perpetual Swaps vs. Traditional Futures

While both perpetual swaps and traditional futures are derivatives, futures contracts have a defined expiration date. This requires traders to either settle the contract or roll it over into a new position. Perpetual swaps, on the other hand, have no expiry. This gives traders uninterrupted exposure to market trends without the administrative burden of managing rollovers.

Perpetual Swaps vs. Spot Trading

Spot trading involves the immediate exchange and ownership of the cryptocurrency. Traders take direct custody of the asset, which can be stored, transferred, or used. In contrast, perpetual swaps do not involve ownership. Instead, they offer leveraged exposure to the asset’s price movements, allowing traders to enter larger positions with smaller amounts of capital.

What Is the Funding Rate in Cryptocurrency Perpetual Swap Contracts

With traditional futures contracts, the value of the contract typically converges toward the spot index price as it approaches expiration. This occurs due to a decline in the time value component of the contract, reducing the likelihood of significant price movement and aligning it more closely with the underlying asset.

In contrast, cryptocurrency perpetual swaps lack expiration dates, which means they require a mechanism to regularly align contract prices with the spot market. This is achieved through funding rates—periodic payments exchanged between traders holding long and short positions. Funding rates are not paid to the exchange but are transferred between participants to encourage price convergence with the spot index.

How Funding Rates Work

Positive Funding Rate: Price Of Perpetual Swap > Price Of Underlying

When the price of the perpetual swap exceeds the index price of the underlying cryptocurrency, the funding rate is positive. In this case, long position holders pay a fee to short position holders. This dynamic discourages additional long positions and encourages selling, helping to lower the contract price toward the index.

Negative Funding Rate: Price Of Perpetual Swap < Price Of Underlying

When the perpetual swap price is below the index price, the funding rate becomes negative. Here, short position holders pay a fee to long position holders, incentivizing buying and thereby lifting the contract price to better reflect the spot market.

This mechanism helps maintain price stability between perpetual contracts and the spot value of the underlying cryptocurrency. The funding interval, typically every eight hours, may vary across exchanges.

How Do Cryptocurrency Perpetual Swap Contracts Work

Perpetual swaps are traded on margin, meaning traders use collateral to open positions larger than their account balances. Here's how the process works:

• Account Funding: Deposit crypto (e.g., USDT, BTC) or fiat currency to serve as collateral.

• Open a Position: Submit an order specifying contract size and direction (long/short).

• Leverage Use: Depending on platform rules, traders can access leverage up to 100x or more.

• Risk Management: Platforms require a minimum margin ratio. If a position’s value drops below this threshold, the trade is automatically liquidated.

Example:

• A trader deposits $1,000 in collateral.

• Opens a 10 BTC perpetual position at $20,000 per BTC.

• Total position size: $200,000.

• Leverage used: 20x ($200,000 / $10,000).

This amplifies gains but also increases the risk of liquidation.

Profit And Loss (PnL) Calculation For Perpetual Swap Contracts

This section outlines a standard profit and loss profile for perpetual swap contracts, assuming no liquidation event occurs.

Inverse Nonlinear Settlement

To understand inverse settlement, it's helpful to first consider direct settlement, where profit and loss are typically realized in fiat currency. However, most cryptocurrency exchanges opt to avoid fiat settlement to bypass regulatory constraints. Inverse settlement allows traders to gain exposure to crypto-to-fiat pairs without interacting directly with fiat currencies.

Under inverse settlement, trades are settled in cryptocurrency rather than fiat. For example, in a BTC/USD inverse contract, settlement is made in BTC rather than USD. If a trader profits from a long BTC position, the payout is made in BTC. When BTC prices rise, the USD equivalent of the gain remains the same, but fewer BTC are received due to the higher BTC value. Conversely, if BTC falls in value, the trader loses a greater amount of BTC due to its lower valuation against USD. This introduces a non-linear relationship between the contract's value and settlement asset—hence the term "inverse nonlinear settlement."

Linear Settlement

With the advent of stablecoins and USD-pegged digital assets, many cryptocurrency exchanges now offer linearly settled contracts. These are settled in stablecoins like USDT, providing simplified PnL calculations and reducing exposure to the volatility of the base cryptocurrency. Linear settlement has become increasingly popular, especially among newer traders who prefer predictable outcomes.

Benefits of Crypto Perpetual Swap Contracts

• Leverage Exposure: Trade larger positions using a smaller capital base.

• 24/7 Trading: Like all crypto markets, perpetual swaps operate non-stop.

• Hedging Tool: Traders and investors can hedge portfolio exposure against short-term market movements.

• No Expiry Pressure: Positions can be held indefinitely, allowing longer-term strategies.

On platforms like Flipster, traders can access up to 100x leverage on BTC perpetual contracts. A 1% price move in a favorable direction can double the initial investment.

Risks and Drawbacks of Perpetual Swaps

• High Leverage = High Risk: While potential gains are attractive, losses can accumulate quickly. Liquidation is common in volatile markets.

• Funding Costs: Depending on market conditions, funding fees can eat into profits or compound losses.

• Market Volatility: Crypto markets are highly volatile. Perpetual swaps magnify this effect.

• Complexity: For new traders, understanding leverage, margin, and funding may be daunting without proper education.

Choosing a Platform for Perpetual Swap Trading

Not all exchanges offer the same experience. Here are a few criteria to consider:

• Leverage Limits: Ranges from 20x to 200x depending on the platform.

• Funding Rate Policy: Review how and when funding is charged.

• User Interface: A clear, responsive interface helps reduce costly trading errors.

• Security Features: Ensure the platform offers robust account protection like 2FA and asset insurance.

• Fee Structure: While most platforms charge trading fees, Flipster offers one of the most competitive low-fee models in the market.

Popular platforms offering perpetual swaps include Binance, Bybit, OKX, Flipster, and Deribit. Each offers different asset selections, leverage ratios, and trading tools.

Perpetual swap contracts have reshaped how traders participate in the crypto market. They offer high-leverage, round-the-clock trading without expiration constraints—ideal for advanced strategies and short-term speculation alike. However, with greater potential rewards come significant risks.

New traders should start with lower leverage, study platform mechanics, and develop a disciplined risk management strategy. For more seasoned participants, perpetual swaps can offer powerful tools to speculate, hedge, or generate alpha in both rising and falling markets.

As crypto trading continues to evolve, perpetual swaps remain a key instrument—bridging the gap between spot exposure and complex derivatives trading, all while maintaining the flexibility the decentralized finance community values most.

Disclaimer: This material is for information purposes only and does not constitute financial advice. Flipster makes no recommendations or guarantees in respect of any digital asset, product, or service. Trading digital assets and digital asset derivatives comes with a significant risk of loss due to its high price volatility, and is not suitable for all investors. Please refer to our Terms.