What Are Funding Rates?

Funding rates are the secret sauce that makes perpetual futures work. Unlike traditional futures contracts that expire, perpetual contracts never settle. But how do you keep the perpetual price tied to the spot price without expiration? That's where funding rates come in.

💡 The Core Concept

Funding rates are periodic payments between long and short traders that keep the perpetual contract price anchored to the spot price. When the perp price is higher than spot, longs pay shorts. When it's lower, shorts pay longs.

Think of funding as a balancing mechanism. If everyone wants to go long (bullish), the perpetual price rises above spot. To cool down the longs, they have to pay shorts, incentivizing more traders to take the short side. This brings the prices back in line.

How Funding Rates Are Calculated

Most exchanges use a formula based on two components:

1. Premium Component

Premium = (Perp Price - Spot Index Price) / Spot Index Price Example: Perp Price: $42,000 Spot Price: $41,500 Premium = ($42,000 - $41,500) / $41,500 = 0.012 = 1.2%

2. Interest Rate Component

A small fixed rate (usually 0.01% per funding interval) representing the cost of capital. This is typically negligible compared to the premium.

Final Funding Rate

Funding Rate = Premium + Interest Rate Typical funding interval: Every 8 hours (3 times per day)

Important: The funding rate is usually displayed as an 8-hour rate. Multiply by 3 to get the daily rate, by 365 to get annualized.

Reading Funding Rates

Positive Funding Rate (+0.01%)

  • Meaning: Perp price is ABOVE spot price
  • Market sentiment: Bullish (more demand for longs)
  • Payment direction: Longs pay shorts
  • Effect: Discourages longs, encourages shorts

Negative Funding Rate (-0.01%)

  • Meaning: Perp price is BELOW spot price
  • Market sentiment: Bearish (more demand for shorts)
  • Payment direction: Shorts pay longs
  • Effect: Discourages shorts, encourages longs

Calculating Your Funding Payment

Funding Payment = Position Size × Funding Rate Example 1 - Positive Funding (Longs pay shorts): Position: Long $10,000 BTC Funding Rate: +0.05% (8-hour rate) Payment: $10,000 × 0.0005 = $5 (you PAY $5) Example 2 - Negative Funding (Shorts pay longs): Position: Long $10,000 BTC Funding Rate: -0.03% (8-hour rate) Payment: $10,000 × -0.0003 = -$3 (you RECEIVE $3)

Key Points:

  • Funding is charged/paid every 8 hours on most platforms (00:00, 08:00, 16:00 UTC)
  • You only pay/receive funding if you hold a position at the funding time
  • Opening and closing within a funding period = no funding cost
  • Funding is based on your position size, not your margin

Real-World Funding Rate Scenarios

Scenario 1: Bull Market with High Funding

Situation: BTC rallying, everyone wants longs, funding at +0.15% per 8 hours

Daily cost: +0.15% × 3 = 0.45% per day Weekly cost: 0.45% × 7 = 3.15% per week Annual rate: 0.45% × 365 = 164% APR!

Analysis: Extremely expensive to hold long positions. Either the rally needs to outpace the cost, or smart money will start shorting to farm funding.

Scenario 2: Bear Market with Negative Funding

Situation: Market crashing, funding at -0.10% per 8 hours

Daily income: -0.10% × 3 = -0.30% per day (you receive 0.30% daily) Monthly income: 0.30% × 30 = 9% per month Annual rate: 0.30% × 365 = 109.5% APR!

Analysis: Being long during this period pays you handsomely, even if price moves sideways. Risk is catching a further dump.

Scenario 3: Neutral Market

Situation: Funding hovering around +0.01% to -0.01%

Analysis: Funding is negligible. Trade based on price action without worrying about funding costs.

Funding Rate Trading Strategies

Strategy #1: Funding Rate Arbitrage (Cash & Carry)

Setup: High positive funding (+0.10% or more)

Execution:

  1. Short the perpetual contract
  2. Buy the same amount on spot
  3. Collect funding payments from longs

Risk Profile: Market neutral (hedged), main risk is liquidation if perp premium expands significantly

Example: Short $100,000 BTC perp at $42,000 Buy $100,000 BTC spot at $41,800 Funding rate: +0.10% every 8 hours Income: $100,000 × 0.10% = $100 every 8 hours = $300/day Monthly: $300 × 30 = $9,000 (9% return on $100k)

Exit Condition: Close when funding drops below profitable threshold (accounting for fees and risk)

Strategy #2: Funding as Sentiment Indicator

Concept: Extreme funding rates often indicate market tops/bottoms

Signals:

  • Funding > +0.20%: Extreme greed, consider taking profits or shorting
  • Funding < -0.10%: Extreme fear, potential buying opportunity
  • Funding flipping from high positive to negative: Trend reversal signal

Historical Example: During the May 2021 crash, BTC funding went from +0.15% to -0.30% in hours, signaling capitulation.

Strategy #3: Timing Entries Around Funding

Observation: Traders often close positions before funding to avoid payment, creating temporary price movements

Opportunity:

  • In high positive funding: Price may dip 5-10 minutes before funding as longs close
  • In high negative funding: Price may spike before funding as shorts cover

Tactic: Scalp these micro-moves around funding timestamps

Strategy #4: Farming Funding on Stable Positions

Setup: Strong conviction long-term position + negative funding

Execution: Hold your position and collect funding payments as bonus income

Example: You're bullish on SOL long-term SOL funding: -0.05% per 8 hours (shorts desperate) Position: $50,000 SOL long Daily income: $50,000 × 0.05% × 3 = $75/day Monthly: $2,250 (4.5% monthly return) Even if SOL is sideways, you're earning 4.5%/month just for holding

Managing Funding Rate Risk

For Long Positions in Positive Funding

  • Set breakeven targets: Calculate how much price needs to move to offset funding costs
  • Use shorter timeframes: Don't hold through multiple funding periods unless necessary
  • Close before funding: If funding is extreme (>0.15%), consider closing before the funding timestamp
  • Consider spot instead: If funding is consistently high, buying spot may be cheaper than paying perpetual funding

For Short Positions in Negative Funding

  • Factor in costs: Paying funding to hold shorts can erode profits in sideways markets
  • Use limit orders: Set profit targets that account for funding costs
  • Time your shorts: Enter when funding is less negative or slightly positive

Common Misconceptions About Funding

❌ Myth #1: "Exchanges profit from funding"

✅ Reality: Funding is peer-to-peer between traders. Exchanges don't take a cut (though they profit from increased trading volume).

❌ Myth #2: "Positive funding means price will go up"

✅ Reality: Positive funding means the market IS bullish, but extreme funding often precedes reversals as longs get too crowded.

❌ Myth #3: "I should always be on the receiving end of funding"

✅ Reality: Fighting market direction for funding income can lead to larger losses. Funding is a secondary consideration to directional trade quality.

❌ Myth #4: "Funding payments happen instantly"

✅ Reality: Funding is calculated and exchanged at specific timestamps (usually 00:00, 08:00, 16:00 UTC). Check your exchange's schedule.

Monitoring Funding Rates

Track funding rates across assets to identify opportunities:

  • High positive funding (>0.10%): Potential shorts or arb opportunities
  • High negative funding (<-0.05%): Potential longs or collect funding
  • Funding divergence: BTC positive while alts negative (or vice versa) indicates rotation
  • Funding rate changes: Sudden flips in funding direction often signal trend changes

Advanced: Funding Rate Mean Reversion

Funding rates are mean-reverting. Extreme rates rarely persist because:

  1. High funding makes the crowded side too expensive to hold
  2. Arbitrageurs step in when funding is profitable enough
  3. The mechanism itself auto-corrects by incentivizing the opposite side

Trading Opportunity: When funding hits extremes (>0.20% or <-0.10%), consider counter-trend positions with tight stops, betting on mean reversion.

Summary: Key Takeaways

🎯 Essential Funding Rate Principles

  • Funding keeps perp prices anchored to spot
  • Positive = longs pay shorts (bullish sentiment)
  • Negative = shorts pay longs (bearish sentiment)
  • Funding compounds quickly—calculate daily/monthly costs
  • Extreme funding often signals reversals
  • Arbitrage opportunities exist at high funding rates
  • Don't fight direction just for funding income
  • Monitor funding across multiple assets for opportunities

Understanding funding rates gives you an edge most retail traders ignore. Use PerpsTracker to monitor funding rates across different assets and identify opportunities before they disappear.

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