Margin Requirements for Perpetual Futures
Margin requirements for perpetual futures refer to the minimum amount of collateral a trader must deposit to open and maintain a leveraged position. The margin serves as a safety net for the trader and the exchange in case the market moves against the trader’s position.
Here’s a simple example of margin requirements:
Choose a trading pair: Let’s use the ETH/USD trading pair.
Long or short: The trader believes the price of Ethereum will increase (goes long).
Margin and leverage: The trader deposits $200 as collateral (margin) and uses 5x leverage, allowing them to control a position worth $1,000 (5 times their margin).
Opening the Perpetual Trade
The trader enters a long position on ETH/USDT perpetual at a price of $3,000. With 5x leverage, they control 0.33 ETH, or $1,000 worth of Ethereum.
Margin requirements:
To maintain the position, the trader needs to keep a minimum balance in their margin account. If the market moves against their position and their margin balance falls below the maintenance margin requirement, they risk liquidation.
For example, if the maintenance margin requirement is 3%, the trader needs to maintain at least $30 (3% of $1,000) in their margin account. If the asset price of Ethereum drops and the trader’s margin balance falls below $30, their position will be liquidated to prevent further losses.
It’s crucial for traders to understand margin requirements and manage their risk when trading perpetual futures, as leverage can amplify both profits and losses.
Example of a Bitcoin Perpetual Future
Imagine a trader who wants to speculate on Bitcoin’s price through a perpetual futures contract. The trader opts to go long, meaning they buy one Bitcoin perpetual futures contract currently valued at $30,000. Although the notional value of the crypto futures contract is one Bitcoin, the trader uses 5x leverage, resulting in a total position size of $150,000 ($30,000 x 5).
With a 5% margin requirement, the trader must maintain $7,500 (5% of $150,000) as collateral in their trading cryptocurrency account to open positions. The funding rate for this Bitcoin perpetual futures contract is approximately 0.03% for each eight-hour funding period.
If Bitcoin’s price increases to $35,000, the trader earns $25,000 on their position. However, they will also incur a 0.03% funding fee every eight hours, deducted from their trading account. Conversely, if Bitcoin’s price changes to $25,000, the trader faces a $5,000 loss on their position, which will also be subtracted from their day trading account.
Pros and Cons of Perpetual Futures Contracts
Pros
No expiration date: As long as you meet the margin requirements, your position will remain open.
High liquidity and leverage: Perpetual future contracts typically involve highly-liquid assets and the option to use leverage.
Accessibility: Unlike traditional futures contracts, perpetual futures are open to retail investors.
Cons
High risk and volatility: Along with the potential to make a huge profit, there is the risk of losing a significant portion of your assets because of price fluctuations.
Counterparty risks: When traded on centralized cryptocurrency exchanges, traders could lose their funds if the platform is hacked or goes bankrupt.
Not ideal for new traders due to the risks involved.
Perpetuals in DeFi (decentralized finance) introduce hacking risks.
Conclusion
Perpetual futures, devoid of any expiration date, have piqued the interest of traders looking to establish long-standing positions in crypto markets without the need to acquire the underlying assets themselves. Despite the allure of these contracts, they also carry an elevated level of risk. Consequently, those who venture into this realm should tread carefully, meticulously assessing their crypto futures trading strategies and risk management protocols.
