Funding rate is a very important concept for users who frequently trade perpetual contracts. Funding rate can help investors make more profit, or reduce investors' profit. Let's take a look at what is Funding rate in today's article.
What is Funding Speed?
Funding rate (also known as financing fee) is a periodic payment between long and short traders. This figure is calculated based on the difference between the spot market (spot) asset price and the futures asset price. Market Funding ratio is usually expressed as a percentage.
Based on this definition, traders can pay or receive a Funding rate based on holding a position.
If the Funding Rate is positive: the futures price of the asset is higher than the spot price. The trader with the long order will pay the trader with the short order.
If the Funding Rate is negative: the futures price of the asset is lower than the spot price. The trader with the short order will pay the trader with the long order.
Funding rates show the mentality of traders, especially the overall performance of market sentiment. During the bull market, Funding rates are usually positive, showing the optimism of traders. On the contrary, during the recent correction, Funding rates tend to be negative, reflecting the pessimism of traders.
However, in the case of special events, Funding rates may rise or fall significantly and may not fully reflect market sentiment.
Why do we need financing rates?
In traditional financial markets, futures contracts always have an expiration date, and the payment period can be 1 month, 3 months or even a year, depending on the terms of the contract. At settlement, whether the position is profitable or loss-making, it must be closed, and the trading price of the futures contract will tend to be consistent with the spot trading price.
Unlike traditional markets, cryptocurrency derivatives exchanges usually use smart contracts with no expiration date, which means that investors can theoretically keep their positions forever without having to worry about expiration dates and regular payment deadlines. This results in the price of the futures market being forever different from the price of the spot market.
In theory, if the leverage is reasonable, investors can open a position and hold it permanently. Therefore, the purpose of the Funding rate is to prevent the price difference between the two markets from being too large and to protect the interests of traders.
Funding. Rate calculation formula
The formula for calculating Funding Fees is as follows:
Funding rate = total open positions x Funding rate
Example: Assuming that a user has $20, opens a position with x25 leverage, and has a total position of $500, and assuming the Funding rate is -0.005%, the user needs to pay 500 x -(0.005)% = -$0.025. In other words, the person pays a short position funding fee of $0.025.
Notice:
Typically, exchanges calculate funding rates every 8 hours, with FTX and dYdX calculating them every hour.
For Binance, the maximum funding rate is 0.5%, and 3 times the funding rate occurs at 7am, 3pm, and 11pm. There will be a countdown timer to help traders know when the funding rate is calculated.
If a position is closed before the funding rate is calculated, the trader does not pay the funding fee for that order.
Opportunities to make money using funding rates
For those who understand funding rates and funding fees, this can be a highly profitable trading opportunity. In addition to using funding rates to gauge market sentiment and thus contribute to trading decisions, traders can also profit directly from funding fees through the following strategies:
Look for assets with positive funding rates: that is, long traders need to pay short traders.
Next, the capital is divided into two parts, one part is used to buy the spot of the asset, and the other part is used to open a short position of the same amount.
For example, Trader A buys $20,000 worth of Bitcoin and opens a short position for the same value of $20,000.
Assuming the current funding rate is 0.01%, the funding fee received in 1 day will be equal to: 20,000 x 0.01% x 3 = 6 USD/day. This is equivalent to 2,190 USD per year, with an annualized rate of return of approximately 10.95%, which is relatively low risk.
However, there are a few things to keep in mind:
This strategy only works with positive funding rates.
Funding rates change frequently, so this strategy may not be sustainable.
Use very small leverage to avoid positions being liquidated due to strong price fluctuations.
This should be viewed as a more hedged and portfolio-protecting approach.
Can be used when an asset suddenly experiences a high funding rate
funding rate tracker
Therefore, understanding the funding rate of an asset not only helps traders get more information about market sentiment, but also provides traders with opportunities to increase profits. So how to monitor the funding rate? Users can monitor the funding rate through the following channels.
Binance
Binance is one of the most commonly used exchanges and if users want to monitor funding rates on this exchange, simply visit Binance Futures and select “Funding Rate History” in the “Information” section to view the funding rate history for all assets with perpetual contract trading.
Coinglass
Outside of exchanges, BiBo is the most well-known application for providing derivatives exchange data. BiBo not only has a full range of assets on many different exchanges, but also allows users to rank by day, month, and year as well as calculate funding rates.
Coinalyze
Another website that allows you to query funding rates is CoinAnalysis, which displays historical trends in funding rates through charts, but is not as intuitive and trackable as CoinBo.
Summarize
For investors who have been trading frequently for a period of time, it is essential to understand the funding rate. Understanding how the funding rate works can also help investors avoid losses in trading and optimize profits through reasonable strategies. The funding rate also plays an important role in the derivatives market, reducing the price manipulation behavior of large investors.