Futures are the best way to play funding.
More precisely, future-perpetual spreads.
At $118K, it's a trade that probably no one is thinking about.
Anatomy of a future - perpetual spread trade.
(1/n)
More precisely, future-perpetual spreads.
At $118K, it's a trade that probably no one is thinking about.
Anatomy of a future - perpetual spread trade.
(1/n)
There is a mechanical difference between futures & perps in cost of carry.
At any point in time, the future embeds the entire cost until expiration in price, simply by trading at a premium to index ('basis').
When you buy a future, you lock in basis, and effectively fix an average funding rate until maturity.
If perpetual funding rates go up, this (usually) spills over into basis so that the futures' cost of carry aligns with extrapolated funding for the time to maturity.
This means a long future holder is long funding.
If the cost of leverage increases after she bought the future, she can expect basis profits, orthogonal to delta,by virtue of having secured a better funding rate.
By contrast, perpetuals realize their cost of carry over time through funding and if funding rates go up, long perpetual holders simply pay more to stay in position.
A long perpetual holder is short funding.
(2/n)
At any point in time, the future embeds the entire cost until expiration in price, simply by trading at a premium to index ('basis').
When you buy a future, you lock in basis, and effectively fix an average funding rate until maturity.
If perpetual funding rates go up, this (usually) spills over into basis so that the futures' cost of carry aligns with extrapolated funding for the time to maturity.
This means a long future holder is long funding.
If the cost of leverage increases after she bought the future, she can expect basis profits, orthogonal to delta,by virtue of having secured a better funding rate.
By contrast, perpetuals realize their cost of carry over time through funding and if funding rates go up, long perpetual holders simply pay more to stay in position.
A long perpetual holder is short funding.
(2/n)
These opposite response functions to changes in the equilibrium cost of carry form the basis for spread trading.
Long future = long δ + long ρ
Short perp = short δ + long ρ (if funding > 0)
Buy one, sell the other. Now, you're offsetting deltas, while doubling funding exposure.
This exposure is direct for the perpetual, and indirect for the future though bounds of arbitrage.
Okay, so what's the trade?
(3/n)
Long future = long δ + long ρ
Short perp = short δ + long ρ (if funding > 0)
Buy one, sell the other. Now, you're offsetting deltas, while doubling funding exposure.
This exposure is direct for the perpetual, and indirect for the future though bounds of arbitrage.
Okay, so what's the trade?
(3/n)
Future basis is, historically speaking, cheap.
Particularly so, given new highs.
In the past, we've seen it expand to 20%, even 30% APR, if & when leverage fuels price discovery.
Currently, we're at 7%. This is by no means a historic low but it's attractive for a trending market and given that term structure is fairly flat, we could lock it in several months out.
For instance, we could structure:
+ 26 Dec future to lock in 7% APR
- Perpetual in equal size to hedge
= δ-neutral long future, short perp
(4/n)
Particularly so, given new highs.
In the past, we've seen it expand to 20%, even 30% APR, if & when leverage fuels price discovery.
Currently, we're at 7%. This is by no means a historic low but it's attractive for a trending market and given that term structure is fairly flat, we could lock it in several months out.
For instance, we could structure:
+ 26 Dec future to lock in 7% APR
- Perpetual in equal size to hedge
= δ-neutral long future, short perp
(4/n)
What's the cost of this structure?
The mark is ~4K but that's not the actual cost to carry.
If the market is at equilibrium here, the decay in basis on the long future leg will more or less match the funding you collect on the short perp leg.
If you lock basis at a reasonable level, carry should net out to zero.
(5/n)
The mark is ~4K but that's not the actual cost to carry.
If the market is at equilibrium here, the decay in basis on the long future leg will more or less match the funding you collect on the short perp leg.
If you lock basis at a reasonable level, carry should net out to zero.
(5/n)
What do you get?
Nice upside if funding rates pump. It's basically a bet on demand for leverage entering this market on new highs, and pushing up basis too.
For example:
• BTC goes to 150K by end of month
• Basis moves from 6% to 20% APR
• Future goes to 150K * (1 + 20% * 148/365) ≈$162K
That's $12K basis vs $4K originally. In addition, you'd get funding of maybe around $1K.
You can consider levering these returns.
4-10x is not unreasonable (our margin system allows 25x) because it's a statically delta-hedged position.
Easy to carry, cheap to carry, but packs a punch if the thesis plays out.
Next up: caveats.
(6/n)
Nice upside if funding rates pump. It's basically a bet on demand for leverage entering this market on new highs, and pushing up basis too.
For example:
• BTC goes to 150K by end of month
• Basis moves from 6% to 20% APR
• Future goes to 150K * (1 + 20% * 148/365) ≈$162K
That's $12K basis vs $4K originally. In addition, you'd get funding of maybe around $1K.
You can consider levering these returns.
4-10x is not unreasonable (our margin system allows 25x) because it's a statically delta-hedged position.
Easy to carry, cheap to carry, but packs a punch if the thesis plays out.
Next up: caveats.
(6/n)
The bet here is that price will fuel demand for leverage.
If that doesn't happen, the spread will do nothing of interest. It could gain or lose a little in function of price direction.
Wait, isn't it delta-neutral?
Not in higher order. It's a detail, but it's important.
The basis you locked is the product of APR * index * time to maturity. If APR is constant, but index goes up 2x quickly, you make a basis profit.
What if the market dumps?
If the dump is severe, funding rates could go negative and futures could backwardate. Carry would turn against you on both legs.
You could argue that the trade therefore has symmetric exposure, similar to a risk reversal where you get calls by selling puts.
The asymmetry is in how funding rates move.
Backwardation episodes are rare and short-lived.
If the market takes the elevator down on negative funding, followed by staircase up with positive funding and leverage demand to buy dips, the spread could still work.
Therefore, it's beneficial to be able to lock in far enough to be less dependent on timing.
(7/n)
If that doesn't happen, the spread will do nothing of interest. It could gain or lose a little in function of price direction.
Wait, isn't it delta-neutral?
Not in higher order. It's a detail, but it's important.
The basis you locked is the product of APR * index * time to maturity. If APR is constant, but index goes up 2x quickly, you make a basis profit.
What if the market dumps?
If the dump is severe, funding rates could go negative and futures could backwardate. Carry would turn against you on both legs.
You could argue that the trade therefore has symmetric exposure, similar to a risk reversal where you get calls by selling puts.
The asymmetry is in how funding rates move.
Backwardation episodes are rare and short-lived.
If the market takes the elevator down on negative funding, followed by staircase up with positive funding and leverage demand to buy dips, the spread could still work.
Therefore, it's beneficial to be able to lock in far enough to be less dependent on timing.
(7/n)
Apologies for the long explanation.
Futures spread trading is straightforward, but you have to pay attention to mechanical detail, and I struggle to explain this in few words.
Let me wrap up by mentioning that futures spreads are easily tradable on thalex in dedicated order books, which we call rolls.
These days, we give free collateral to those who onboard, so by all means, use it to try trading these free of any risk.
thalex.com/exchange/rolls…
Futures spread trading is straightforward, but you have to pay attention to mechanical detail, and I struggle to explain this in few words.
Let me wrap up by mentioning that futures spreads are easily tradable on thalex in dedicated order books, which we call rolls.
These days, we give free collateral to those who onboard, so by all means, use it to try trading these free of any risk.
thalex.com/exchange/rolls…
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