In crypto perpetual futures trading, most platforms employ discrete funding mechanisms. This means that at regular intervals, typically every 8 hours, there is a payment from long position holders to short position holders (or vice versa) based on the difference between the perpetual futures price and the underlying spot price. While this mechanism helps keep the perpetual futures price in line with the spot price, it can lead to sudden price jumps and an inconsistent experience for traders.

Paradex takes a different approach. By utilizing a continuous funding mechanism, Paradex perps are able to provide more consistent perp-spot relative pricing for its users. Here we’ll take a look at how Paradex’s continuous funding works, and what that means for traders.

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How do standard perp funding fees work?

Basic perpetual futures funding rates are simple: to keep the price of perps in line with the price of spot, longs pay shorts when the the perp price is higher than the spot price, and shorts pay longs when the perp price is lower than the spot price. The funding rate incentivizes trades to trade the perp and spot price back together. This concept applies to all perp futures, but the specifics of the perp payment terms are specific to each venue.

On Binance, perp funding fees are paid every 8 hours, within the first minute. To determine the payers and recipients of the funding fees, the exchange typically snapshots the accounts that had positions at the time of the hour changing, debits the funding rate from accounts that must pay funding, and credits the funding rate to accounts that will receive funding.

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Discrete Funding Example: Binance Funding in March 2024

The funding payment mechanism is particularly important when the funding rate is large, which was certainly the case in March 2024. Looking only at Binance’s BTCUSDT perpetual funding rates, we can see that funding rates exceeded 0.08% per 8 hours for some funding periods in March.

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On March 5, 16:00:000 UTC, there was a funding payment of 0.088%, or 8.8bps. Under Binance’s discrete funding mechanism, if someone opened a long position at 15:59:00 UTC — one minute before the funding payment — they would need to pay 0.088% of their position notional in funding only one minute later. For reference, this payment is even higher than Binance’s highest fee tier’s taker fee. While this is a particularly high funding rate, it was not uncommon for funding rates in the rest of the month to exceed 3bps.

This example highlights the problem with the discrete perp funding fee mechanism: perp fees are paid based on who held the perp at the time of perp funding snapshot, rather than who held the perp throughout the 8 hour period. This problem does not exist on Paradex’s continuous funding fee mechanism.

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How does Paradex’s continuous funding work?

Paradex’s funding mechanism utilizes continuous funding payments. Put simply, funding fees are paid based on the time that someone held a perp position, not based on who happened to be holding a perp at the time of the perp funding snapshot. While the specifics can be found in the Paradex docs, the high-level result is this: Paradex perps will not have the same discrete price jumps that are common for perps on other platforms.

At any given point in time, there is a funding rate and a funding premium. The funding rate is calculated by taking the median over three quantities: best-ask-derived-funding, best-bid-derived-funding, and last-trade-price-derived-funding. The specifics on the funding rate calculation can be found in the mark price documentation here, but the general idea is that the funding rate at a given time is the rate at which longs pay shorts.

The funding premium is simply the USDC-denominated funding rate. This conversion to units of USDC is necessary for the settlement to be robust in the case of a USDC depeg. The funding premium can be expressed as a function of the funding rate as follows.

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To convert the funding premium (an instantaneous quantity with units of percent-per-time) into a funding PnL for a position (a cumulative quantity with units of percent), we introduce a funding index.

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For a given Paradex position, the accrued perp funding pnl is calculated as follows.

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Since funding is accrued continuously — rather than in jumps every hour or every 8 hours — the fair price for a paradex perp is more continuous than its other perp product counterparts. As a visual example, we plot a comparison of an example of fair prices for a spot asset, a Paradex perp market on that asset, and a discrete 8-hour funding perp market on that asset.

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This spot-vs-paradex-vs-discrete-perp price graph illustrates the discrete perp price (green) has more extreme moves over the funding period, as opposed to the Paradex price (orange) that stays at a constant 0.08% premium to spot price (blue). Furthermore, we would expect discrete funding venues’ prices to jump just after the time of funding payments (when the funding rate is positive), whereas Paradex would not have these price jumps.

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How is this relevant for traders?

For UI traders. When you’re trading on Paradex, you don’t need to worry about entering a trade at close to a funding window. You will always pay or receive funding based on the amount of time you hold the position rather than arbitrary discrete windows.

Cross-Exchange Funding Arbitrage. Just like any other derivatives market, traders can price and trade Paradex perps against spot and derivatives products on other venues. The simplest way to do this is to buy (sell) spot and sell (buy) the Paradex perp when the Paradex funding rate is positive (negative). For the real degens who want to lever that trade up, once can use spot leverage to increase their spot position size, then use leverage on the perp leg as well; however when doing this, one must pay close attention to the borrow cost for their spot leverage, as well as pay attention to their collateral amounts to ensure they do not get liquidated on the spot or perp leg of the trade.

Yet another funding rate trade would be to simply trade one perp product against another and collect the funding rate spread. At the time of writing, below are the BTC annualized perp funding rates across a handful of exchanges.

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Notice that the funding rate can vary widely across exchanges, leading to arbitrage opportunities. In this example, one would short perps on OKX to collect the annualized 29.66% funding rate, while going long perps on Paradex and paying only 1.10% annualized funding rate. The beauty of this trade is that it has perps on both legs, which can enable much higher leverage for this trade than is possible on the spot-perp basis trade.

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Arbitrage the discrete funding time. One of the common form of HFT arbitrage is cross-exchange perpetual funding arb. Here you are trying to benefit from the difference in perpetual funding between two exchanges assuming that the oracle price both reference the same source. Since Paradex has a much smoother funding profile, you do have more opportunity to arbitrage differences between Paradex vs. other CEXs or DEXs who have discrete or clamped funding. However, this is an advanced strategy that requires precise execution, otherwise exchange fees and bid/ask spread can quickly erode funding rate profits.

In times of high funding rates, traders may consider trading the difference between discrete-funding venues and paradex’s continuous funding. For instance, if the funding rate payment is expected to be +0.08% on Binance, a trader can wait until one minute before funding, sell the perp on Binance, buy the same amount of perp on Paradex, then close out of the position after the funding rate gets paid a minute later. Due to the trade having two legs, it can be difficult to execute. However, there exist other funding rate trading strategies that Paradex traders can enjoy. Popular among perpetual futures trading strategies is the basis trade.

Basis trades on perp funding rates are entail the following: when perp funding rates are positive, traders can earn the perp funding rate without taking price risk by buying the spot asset and shorting an equal amount of the perpetual future. When doing this, the trader is fully hedged against price changes of the underlying asset, while still earning funding rate payments for their perp short position. For more details on basis trading, see the Paradigm Insights series blog post series “Basis Basics”.

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Article by

Max Holloway

Xenophon Labs is a Web3 research and development firm that focuses on the intersection of mechanism design and finance to help Web3 companies create sound incentive structures. Max Holloway, the founder of Xenophon Labs and author of this post, previously led a market-neutral crypto hedge fund that employed strategies across centralized and decentralized venues.