Key Takeaways:
- Funding rates in the crypto market play a crucial role in maintaining the alignment between perpetual futures contracts and the price of the underlying asset.
- By incentivising certain trading behaviours, funding rates help converge the price of perpetual contracts with the spot price of the asset.
- Understanding funding rates can provide insights into trader sentiment and serve to help make informed trading decisions.
- Funding arbitrage and taking advantage of differences in funding rates across exchanges can offer a low-risk strategy to generate profits.
- While funding rates are a valuable tool, it’s important to consider multiple factors and perform thorough analysis before making trading decisions.
What Are Funding Rates?
Funding payment is a mechanism used in perpetual futures contracts to encourage the perpetual contract’s mark price to align with the underlying index’s price. When the funding rate is positive, long position holders pay funding to the short position holders. When the funding rate is negative, short position holders pay funding to the long position holders.
For more comprehensive information on funding payments, calculations, and settlement time, please visit our FAQ page.
How Do Funding Rates Work?
Funding rates have one side of the trade pay a small fee to the other side. The specific mechanics of funding rates may vary across exchanges, but the general principle remains the same. Let’s consider a scenario where the price of perpetual futures contracts is trading above the spot price of the underlying asset.
In this case, the funding rate is adjusted to incentivise selling or closing long positions, where traders holding long positions on perpetual contracts have to pay a funding fee to traders holding short positions. The funding fee is generally a small percentage of the position size, calculated at regular intervals, such as every eight hours.
Conversely, if the price of perpetual contracts needs to be adjusted downward, the funding rate incentivises buying or closing short positions, where short position holders have to pay a funding fee to long position holders. By implementing funding rates in this manner, exchanges aim to narrow the gap between the price of perpetual contracts and the spot price of the asset.
Significance of Funding Rates in Trading
Understanding funding rates provides valuable insight into trader sentiment and market dynamics. High funding rates often indicate a high interest in long trades on leverage, suggesting a bullish market sentiment. Conversely, low or negative funding rates suggest a crowded short position and a bearish market sentiment. By monitoring funding rates, traders can gauge the prevailing sentiment and potentially use this as a factor in identifying trading opportunities.
Utilising Funding Rates as an Indicator
To effectively use funding rates as an indicator, it is essential to understand their relationship with market trends and price movements. While funding rates provide insights into sentiment, it is important to analyse them in conjunction with other indicators to validate trading decisions.
Below is a cheat sheet to help traders interpret funding rates:
- High funding rate with a rising price: This scenario suggests a crowded long trade and may indicate a potential reversal or correction in the market.
- Decreasing funding rate with a rising price: This situation may indicate that the majority is counter-trading the upward move.
- Low or negative funding rate with a falling price: This suggests a crowded short trade and may indicate a potential reversal or correction in the market.
It’s important to note that funding rates should not be the sole factor guiding trading decisions. While they can serve as a sentiment indicator, relying solely on funding rates may not yield consistent results. It is crucial to consider multiple factors — such as technical analysis, market trends, and fundamental indicators — before making trading decisions.
Funding Rates on Crypto.com
To promote funding rate magnitude, the Crypto.com Exchange launched a new funding rate mechanism in July 2023. The new calculation provides more meaningful funding rate magnitudes. While introduced by most crypto exchanges, Crypto.com’s funding rate publication versus payment schedule is unique: the mechanism provides predictability of the funding settlement rate while creating arbitrage incentives.
Key Changes
| New Funding Rate | |
|---|---|
| Funding Rate Interval | Published every four hours✝ Funding Rate = Average Premium Rate |
| Funding Settlement | Hourly settlement: At the end of each of the next four hours Funding Payment = Funding Rate / 4 * Position Value (USD) |
| Funding Rate Interval | |
| New Funding Rate | Published every four hours✝ Funding Rate = Average Premium Rate |
| Funding Settlement | |
| New Funding Rate | Hourly settlement: At the end of each of the next four hours Funding Payment = Funding Rate / 4 * Position Value (USD) |
From 31 July 2023, 08:00 UTC, eligible users for trading derivatives will see the following indicators on the Trading page:
- Current Funding:
- The hourly funding rate (calculated from the previous interval) that settles at the end of each hour of the four-hour interval is displayed. For example, if we are now in the 00:00–04:00 UTC interval, the same rate displayed is used to perform funding settlements at 01:00, 02:00, 03:00, and 04:00 UTC.
- Estimated Next Funding:
- The estimated hourly funding payment rate at the end of each hour in the next four-hour interval is shown (in UTC).
Example
Assuming the session settlement time is 02:00 UTC, a trader with an open position on BTCUSD Perpetuals should interpret the funding indicators as follows:
- Current Hourly Funding Rate: -0.00150% (00:00–04:00 UTC)
- 02:00 UTC falls within the 00:00–04:00 UTC interval. This is the same rate used to settle funding on any open positions at the end of each hour in this four-hour interval.
- Estimated Next Funding Rate: -0.0060% (04:00–08:00 UTC)
- This does not apply to the 02:00 session end settlement, as the rate is only effective during the 04:00–08:00 UTC interval.
API Additions
The following Market Data Websocket Subscriptions are available for Crypto.com Exchange API users:
- Funding: {instrument_name}
- Existing channel that returns the fixed hourly rate, which settles at the end of the hour.
- Estimated Funding: {instrument_name}
- New channel that returns the estimated hourly rate, which begins in the next interval.
Please refer to the API documentation for full details.
Conclusion
Crypto funding rates play a vital role in maintaining the alignment between perpetual futures contracts and the price of the underlying asset. By incentivising specific trading behaviours, funding rates help direct the convergence of contract prices with the spot price.
Monitoring funding rates provides valuable insight into trader sentiment, but it’s crucial to consider multiple factors, perform thorough analysis, and employ a comprehensive trading strategy to achieve consistent results.
Due Diligence and Do Your Own Research
All examples listed in this article are for informational purposes only. You should not construe any such information or other material as legal, tax, investment, financial, cybersecurity, or other advice. Nothing contained herein shall constitute a solicitation, recommendation, endorsement, or offer by Crypto.com to invest, buy, or sell any coins, tokens, or other crypto assets. Returns on the buying and selling of crypto assets may be subject to tax, including capital gains tax, in your jurisdiction. Any descriptions of Crypto.com products or features are merely for illustrative purposes and do not constitute an endorsement, invitation, or solicitation.
In addition, the Crypto.com Exchange and the products described herein are distinct from the Crypto.com Main App, and the availability of products and services on the Crypto.com Exchange is subject to jurisdictional limits. Before accessing the Crypto.com Exchange, please refer to the following links and ensure that you are not in any geo-restricted jurisdictions for Spot Trading and Margin Trading.
Past performance is not a guarantee or predictor of future performance. The value of crypto assets can increase or decrease, and you could lose all or a substantial amount of your purchase price. When assessing a crypto asset, it’s essential for you to do your research and due diligence to make the best possible judgement, as any purchases shall be your sole responsibility.
