Funding: Why Exchanges Need It and How to Earn From It
#arbitrage#funding
On an exchange you can buy the asset itself, or you can open a position in a perpetual futures contract on it. These instruments are linked, but they trade in separate markets and can have different prices.
To keep the price of a perpetual future close to the spot price of the underlying asset, exchanges use funding — a mechanism of periodic payments between holders of longs and shorts.
For one side these payments are a cost, for the other — income. Strategies for collecting funding payments are built on this.
To explain, let's take bitcoin. BTC is only an example here: the same logic applies to perpetual contracts on other cryptocurrencies.
Spot asset and perpetual futures: what is the difference
Spot — buying the asset itself
When you buy bitcoin on the spot market, you acquire the BTC itself.
If withdrawals are available, you can transfer it from the exchange to your own wallet, hold it, send it to another person or use it for payments. Later you can deposit the bitcoin back to an exchange and sell it.
The acquired asset exists independently of your trading position on a particular venue.
Perpetual futures — a position on a price change
A perpetual future is a derivative whose value is linked to the underlying asset.
When you open a position in a bitcoin future, you do not acquire BTC that you could withdraw to a wallet. You get a financial result from the change in the contract's price:
- a long profits when the price rises and loses when it falls;
- a short profits when the price falls and loses when it rises.
Trading and settlement follow the exchange's rules. A perpetual contract has no set expiry date: a position can stay open as long as the margin requirements and the venue's conditions are met.
Why the price of a perpetual future can differ from the spot price
The spot market and the perpetual futures market have separate order books.
In each market, participants place their own orders:
- makers add liquidity to the order book;
- takers execute trades against the available orders.
A purchase on spot does not automatically mean a purchase of the future. A sale of the future does not automatically mean a sale of the underlying asset.
So supply and demand can differ. For example, active buying of contracts can push their price above spot. Strong selling pressure can push it below.
These are separate markets for one underlying asset, and in each of them the price is formed by its own trades.
Why exchanges need funding
A perpetual future should let you trade changes in the price of the underlying asset. If its price drifts away from the value of that asset for a long time, the instrument does its job worse.
Funding is used to maintain the link.
The reference is usually an index price calculated from the spot quotes of several venues. Funding creates a financial incentive to take the side of the market that helps reduce the future's deviation from this reference.
The exchange does not enforce equal prices. It changes the economics of holding positions, and participants respond with their own trading actions.
How the funding rate works
The funding rate determines the direction and the size of the payment.
| Rate | Who pays | Who receives |
|---|---|---|
| Positive | Holders of longs | Holders of shorts |
| Negative | Holders of shorts | Holders of longs |
| Zero | No payment | No payment |
In the standard model, payments pass between market participants. Funding is not an ordinary exchange trading fee for executing an order.
When the future is more expensive than spot
The funding mechanism usually shifts the terms in favour of shorts:
- holding a long becomes more expensive;
- holders of shorts receive payments;
- there is an additional incentive to sell the contract or close longs.
This helps reduce the price deviation.
When the future is cheaper than spot
The mechanism can work the other way:
- holding a short becomes more expensive;
- holders of longs receive payments;
- buying the contract becomes more attractive.
This helps bring its price back closer to the spot reference.
However, the rate is not equal to the current price gap. Its calculation uses averaging, an interest component and limits set by the exchange. So the momentary position of the future relative to spot does not always directly determine the sign of the next payment.
When funding is charged
Funding is charged on the schedule of the specific contract. For example, every hour, every four or every eight hours. Intervals can differ even between instruments on the same exchange.
In the common model of periodic payments, funding is received or paid by those holding positions at the moment of settlement. If a position is fully closed before then, it does not take part in that payment. The exact rules are set by the venue.
The funding timer shows the time until the next payment, not until the end of the contract. So it is more accurate to say “settlement time” or “funding payment” rather than “expiry”.
The displayed rate can change before settlement. The exchange can also revise the payment interval and the rate limits.
How a payment is calculated
Funding amount = position value × funding rate ÷ 100
The position value is determined by the exchange's rules. For example, for Bybit USDT contracts it is the quantity of the underlying asset multiplied by the mark price.
5,000 × 0.10 ÷ 100 = 5 USDT
The holder of the long will pay 5 USDT, and the holder of a short with the same position value will receive 5 USDT.
At a rate of −0.10%, the direction of the payment reverses.
Funding is calculated from the position value, not just from the margin posted.
How to earn on the difference in rates
A single position on the side that receives funding still depends on the price direction. The payment received may be smaller than the loss on the position itself.
In cross-exchange arbitrage, a bundle is used:
- a long on one exchange;
- a short on another;
- the same volume of the underlying asset, taking the contract specifications into account.
The goal is to receive more funding on one leg than you pay on the other. Sometimes payments can be received on both legs.
Example with 5,000 USDT
Suppose the settlement price of BTC on both exchanges is 100,000 USDT.
100,000 × 0.05 = 5,000 USDT
For clarity, assume the value of the positions has not changed by the time of the payment. The rates refer to one eight-hour interval, and the payments happen at the same time.
| Parameter | Exchange A | Exchange B |
|---|---|---|
| Position | Long | Short |
| Volume | 0.05 BTC | 0.05 BTC |
| Position value | 5,000 USDT | 5,000 USDT |
| Rate | +0.01% | +0.10% |
| Payment | We pay 0.50 USDT | We receive 5 USDT |
5 − 0.50 = 4.50 USDT
4.50 × 3 = 13.50 USDT
This is a conditional calculation of payments. The final profit of the trade also depends on the change in the prices of both legs and on trading fees.
When payments come on both legs
Let's change the rate on exchange A to −0.02%.
5,000 × 0.02 ÷ 100 = 1 USDT
The short on exchange B still receives 5 USDT.
1 + 5 = 6 USDT
So choosing a bundle by the highest rate alone is not enough. You need to consider the sign of the rate, the direction of each position and the combined result of both legs.
High rates and the effect of leverage
During strong market imbalances, rates can differ significantly from their usual values. If the rules of a particular contract allow a rate of 2% per hour, and the rate on the second leg is close to zero, the difference in payments can give a high return relative to the margin used.
- the short on exchange A receives +2% per hourly payment;
- the long on exchange B has a zero rate;
- the value of each position is 5,000 USDT.
5,000 × 2 ÷ 100 = 100 USDT
There is no payment on the long. The total funding income for this payment is 100 USDT.
Suppose both positions are opened with 5× leverage.
- 5,000 ÷ 5 = 1,000 USDT on the first exchange;
- 1,000 USDT on the second;
- 2,000 USDT in total.
100 ÷ 2,000 × 100% = 5% of the total initial margin
Leverage does not increase the payment on a given position. It lets you hold the same position with less initial margin, so the return relative to that amount looks higher. If an additional reserve is set aside, the return on all the capital employed will be lower.
Such conditions cannot be automatically carried over to the following hours. A high rate can change quickly, and the spread's movement can offset the payments. With leverage, the buffer before liquidation shrinks; profit or funding on one exchange does not automatically top up the margin of the other leg.
How to use different payment schedules
On one exchange funding may be charged every hour, and on another every four hours. So you need to compare not only the percentages but also the number of payments while the bundle is held.
Example: four payments against one
| Parameter | Exchange A | Exchange B |
|---|---|---|
| Position | Short | Long |
| Rate per payment | +0.10% | +0.20% |
| Interval | Every hour | Every four hours |
| Amount per payment | We receive 5 USDT | We pay 10 USDT |
Suppose on exchange A the next payments happen at 09:00, 10:00, 11:00 and 12:00. On exchange B — only at 12:00. All times are in the same time zone.
We opened the bundle at 08:30 and held it through all four payments. For the example, the rates and position values stay unchanged.
| Time | Exchange A | Exchange B | Funding result |
|---|---|---|---|
| 09:00 | +5 USDT | No payment | +5 USDT |
| 10:00 | +5 USDT | No payment | +5 USDT |
| 11:00 | +5 USDT | No payment | +5 USDT |
| 12:00 | +5 USDT | −10 USDT | −5 USDT |
| Total | +20 USDT | −10 USDT | +10 USDT |
Although the 0.10% rate is lower than 0.20%, over the period in question it is charged four times. It is the schedule that makes the total result positive.
Closing before the payment on the second leg
- three payments on exchange A have already taken place;
- the payment on exchange B has not come yet;
- received 5 × 3 = 15 USDT of funding.
This calculation applies if the second exchange's rules really provide for a payment only for positions open at the moment of settlement, without a pro-rata charge for the holding time.
But the bundle has to be closed at the available market prices. If the exit spread turns out to be unfavourable, the loss and the fees can offset the 15 USDT received.
Besides, do not count on opening or closing at the very last second: order processing and payment calculation take time. For example, Bybit specifically warns about the uncertainty of taking part in a payment when trading close to the settlement time.
What the final profit depends on
Bundle result = long result + short result + funding received − funding paid − trading fees
- opening the two legs costs about 5 USDT;
- closing the two legs — about 5 USDT more;
- the whole cycle — about 10 USDT.
So receiving 4.50 USDT of funding does not even cover the trading fees of a full cycle if the result of the price change is zero.
Before opening a bundle, it is important to assess together:
- the rates and payment directions of both legs;
- the schedule of the next payments;
- the expected holding time;
- the entry spread and the possible exit spread;
- fees and the available margin.
How to analyse funding in Profit Cloud
In Arbitrageur you can see:
- funding rates;
- a forecast of the funding return for the next 8 hours;
- funding history.
The screener has a separate tool for analysing current rates. It helps compare markets and find combinations for further study.
The trading terminal shows the current rate of each leg and the time until the next payment in real time.
History lets you see whether similar conditions persisted for a long time or a high rate appeared only recently. The eight-hour forecast helps assess the near term, and the rates and timers of each leg help account for differences in schedules.
Profit Cloud brings together the data for assessing funding before opening a trade and for monitoring it while the positions are held. Consider them together with the spread's movement, the lot size and trading fees: it is the combination of these factors that determines the result of a bundle.