Perpetual Crypto Contracts

A simple guide for understanding Crypto perpetual contracts before trading.

Perpetual contracts, also known as perpetual swaps, are agreements to buy and sell assets unconditionally at a specific time in the future. Perpetual contracts are settled in cash. Unlike futures, perpetual contracts are usually only settled in cash and have no pre-specified settlement date, meaning they can be held indefinitely without rollover. Moreover, since cash flows are regularly exchanged between buyers and sellers, a perpetual contract is a type of swap, not a future. Investors' profit or loss is calculated based on the difference between the initial trading price and the index price and is usually magnified by leverage.

A perpetual contract is similar to contract for difference (CFD) in traditional markets, allowing users to hold exposure to the underlying assets indefinitely and obtain considerable profit expectations via leverage. The difference between the two is that the perpetual contract is traded in exchanges, in which the exchanges uniformly stipulate basic contract specs, such as margin, leverage, clearing, and settlement methods, and they do not participate in trading between users. In contrast, CFDs are usually traded over the counter, directly between users and brokers. CFDs' margin, leverage, clearing, and settlement methods are negotiated between users and brokers.

The crypto perpetual contract has high leverage, sometimes exceeding 100 times the margin. To maintain the stability of the trading system, automatic deleveraging systems, risk sharing, and other mechanisms are introduced into perpetual contract trading, which forces highly leveraged and profitable traders to give up part of their profits to make up for the overall losses caused by some investors.

Among these mechanisms, the automatic deleveraging system has caused dissatisfaction among many traders. As an improvement, insurance funds were introduced during the development of perpetual contracts to prevent the automatic deleveraging mechanism from being triggered as much as possible. Generally speaking, the insurance fund mainly comes from the remaining margin after the trader's position is liquidated, and the accumulated insurance fund can advance the overall losses caused by users' liquidation when the market fluctuates.

The Perpetual contract was initially proposed by economist Robert Shiller in 1992 to provide derivatives markets for illiquid assets (e.g., real estate, electricity, etc.). Perpetual contracts are widely used in the crypto market. Alexey Bragin first provided the prototype of the coin-margined perpetual contract called "reverse perpetual contract" in 2011. Then, in 2016, the perpetual contract was formally introduced by BitMEX and then popularized in other crypto derivatives exchanges. The perpetual contract has become one of the mainstream derivatives in the crypto market.

Before the popularity of stablecoins, all perpetual contracts traded on crypto exchanges were coin-margined contracts, denominated in U.S. dollars, with crypto as margin, and settled based on crypto. Since the coin-margined contracts are not settled in fiats, they have relatively few compliance restrictions. However, due to the non-linear profit and loss characteristics of the coin-margined contracts, bulls will lose more money when prices fall and earn less when prices rise, creating an unequal situation between the bulls and the bears. Therefore, after the popularity of stablecoins, perpetual contracts based on stablecoins have become mainstream contracts in the crypto market. The Blofin perpetual contract is USDT-margined, and it is also calculated and settled via USDT to ensure equality between bulls and bears.