Paying and Receiving Funding Payments
| Paying and Receiving Funding Payments | |
|---|---|
| Cluster | How-to |
| Market | |
| Margin | |
| Settlement | |
| Key risk | |
| See also | |
Definition
Funding Payments are periodic cash flows exchanged between holders of Perpetual Swaps contracts. Unlike traditional futures contracts which expire, perpetual swaps have no expiry date, necessitating a mechanism to anchor the contract price to the underlying spot market price. This mechanism is the funding rate, which determines whether the long position holder pays the short position holder, or vice versa.
Why it matters
The primary purpose of the funding payment mechanism is to incentivize the perpetual swap contract price to remain close to the underlying Spot Price of the asset. When the perpetual contract trades at a premium to the spot price (trading "high"), the funding rate is positive, meaning long positions pay short positions. This discourages excessive long speculation and pushes the contract price down toward the spot price. Conversely, when the contract trades at a discount (trading "low"), the funding rate is negative, and short positions pay long positions, encouraging buying pressure. Maintaining this price convergence is crucial for the integrity and utility of Derivatives markets based on perpetual contracts.
How it works
Funding payments are calculated based on the difference between the perpetual contract's market price and the spot price, often using an index price derived from several spot exchanges.
Calculation Frequency
Funding payments are typically calculated and exchanged every 4, 8, or 12 hours, depending on the specific exchange and contract specifications. The exact time of payment is predetermined and publicly announced.
The Funding Rate Formula
The actual payment amount is determined by the Funding Rate, which is composed of two components: the interest rate component and the premium/discount component.
The formula generally involves: 1. **Calculating the Premium/Discount:** Measuring the difference between the mark price and the index price. 2. **Applying the Interest Rate:** A fixed or variable interest rate component, often based on the difference in borrowing/lending rates between the base and quote currencies. 3. **Determining the Final Rate:** Combining these factors to generate the final funding rate for that period.
If the resulting funding rate is positive (e.g., +0.01%), long positions pay 0.01% of their notional value to short positions. If the rate is negative (e.g., -0.02%), short positions pay 0.02% of their notional value to long positions.
Payment Mechanism
Crucially, funding payments are exchanged directly between traders; the exchange itself does not usually pay or receive these amounts (unless it is acting as a counterparty or managing its own hedging positions). The payment is settled directly between the open long and short contract holders at the time of the snapshot. Traders who close their position before the payment time do not owe or receive the payment for that period.
Practical examples
Consider a trader holding a 1 BTC perpetual long position worth $70,000 on Exchange X, and the funding rate snapshot is taken when the rate is +0.01%.
1. **Notional Value:** $70,000 2. **Funding Rate:** 0.0001 (0.01%) 3. **Payment Calculation:** $70,000 * 0.0001 = $7.00
Since the rate is positive, the long trader must pay $7.00 to the short traders who hold an equivalent notional value of short positions.
If the funding rate were negative at -0.02%, the long trader would *receive* $14.00 ($70,000 * 0.0002) from the short traders.
Common mistakes
Traders often overlook the impact of funding payments, especially when holding large positions overnight or across multiple funding settlement times.
- **Ignoring Negative Funding:** Holding large short positions during periods of extremely high positive funding can result in significant, unexpected costs that erode profits, potentially making the position unprofitable even if the underlying asset price moves slightly against the trade.
- **Forgetting Payment Times:** Closing a position just moments before a funding payment is due means the trader is liable for that payment, whereas closing it just moments after means they are entitled to receive it. Miscalculating this timing can lead to unexpected costs or missed income.
- **Assuming Zero Cost:** New traders often assume perpetual swaps are free to hold indefinitely, forgetting that funding payments are the cost of maintaining an unleveraged position without an expiry date. This cost is especially relevant in highly volatile or speculative markets where premiums can become extreme.
Safety and Risk Notes
Funding payments introduce an ongoing operational cost or income stream that must be factored into Risk Management. High funding rates are often a sign of market imbalance and extreme sentiment. Traders should monitor the funding rate history as part of their Trade Analysis. If funding rates become extremely high (either positive or negative), it can signal potential volatility spikes or market squeezes, increasing the risk of rapid Liquidation.
See also
Perpetual Swap Index Price Mark Price Basis Trading Leverage Liquidation Derivatives Market
References
<references />
Sponsored links
| Sponsor | Link | Notes |
|---|---|---|
| Paybis (crypto exchanger) | Paybis (crypto exchanger) | Cards or bank transfer. |
| Binance | Binance | Spot and futures. |
| Bybit | Bybit | Futures tools. |
| BingX | BingX | Derivatives exchange. |
| Bitget | Bitget | Derivatives exchange. |