What Is Funding rate?

A funding rate is a periodic fee exchanged between long and short position holders in perpetual future contracts to keep the derivative’s price anchored to the underlying asset’s spot market price. Funding rates enable delta neutral cash and carry strategies, where traders earn passive income by simultaneously holding opposite positions in spot and perpetual markets while remaining hedged against price movements.

How it works

  • Positive funding rate: The perpetual contract trades above the spot price (contango). Long position holders pay short position holders. This is the most common state during bull markets, when demand from leveraged longs exceeds shorts.

  • Negative funding rate: The perpetual contract trades below the spot price (backwardation). Short position holders pay long position holders. This typically occurs during sharp sell-offs or bearish sentiment when shorts outnumber longs.

Calculation

On most cryptocurrency perpetual future exchanges, the funding rate is composed of two parts:

  • Interest rate component: A fixed base rate representing the cost of holding the position (often 0.01% per period on many exchanges).

  • Premium/discount component: Derived from the difference between the perpetual contract’s mark price and the spot index price. When the perp trades at a premium to spot, this component is positive; when at a discount, it is negative.

The funding payment a trader receives or pays is: Funding Payment = Position Size × Funding Rate. Only traders holding open positions at the moment of the funding snapshot are affected — if you open and close a position between funding intervals, you pay or receive nothing.

Funding intervals and rate conventions

Exchanges express funding rates at different intervals, which makes direct comparison tricky:

  • Hourly rate: Some exchanges like Hyperliquid and dYdX charge funding every hour. A typical hourly rate might be 0.001% to 0.005%.

  • 8-hour rate: The most common interval, used by Binance, Bybit, and OKX. A typical 8-hour rate is 0.01% (the default/baseline). Funding is settled three times per day.

  • Annualised rate (APR): To compare across intervals and against other yield sources, funding rates are often annualised. An 8-hour rate of 0.01% annualises to approximately 0.01% × 3 × 365 = 10.95% APR. An hourly rate of 0.00125% annualises to 0.00125% × 24 × 365 = 10.95% APR. Annualised rates make it easy to benchmark funding yield against lending protocol rates, staking yields, or traditional fixed income.

During extreme market conditions, annualised funding rates can spike to 100%+ APR or go deeply negative, creating both risks and opportunities for market neutral strategies.

How order book activity drives the funding rate

The funding rate is ultimately determined by the trading activity on the order book. When bullish traders place aggressive market buy orders and raise their limit buy (bid) prices on the perpetual contract, they push the perp’s mark price above the spot index — widening the premium and increasing the funding rate. Conversely, when bearish traders hit the bid with market sell orders or stack limit sell (ask) orders at lower prices, they drive the mark price below spot, pushing funding negative.

The balance of resting limit orders on the book also matters: a thick wall of bids below the current price supports the premium and keeps funding elevated, while heavy ask-side liquidity above the price suppresses it. On CLOB-based perpetual DEXes like Hyperliquid, GRVT, and dYdX, this order book dynamic is transparent and fully visible on-chain, whereas on centralised exchanges the same mechanics operate but with less visibility into order flow.

Relationship between funding rate and open interest

Funding rate and open interest are two sides of the same coin in perpetual future markets. Open interest tells you how much capital is committed to open contracts, while funding rate tells you which direction that capital is leaning — and how much the dominant side is paying for its conviction.

  • High open interest amplifies funding rate impact: When open interest is large, even a modest funding rate transfers substantial value between longs and shorts each interval. For example, at 0.01% per 8 hours on $10 billion of open interest, $1 million changes hands every funding period. This creates a strong economic incentive for the paying side to close positions, which acts as a self-correcting mechanism pulling the perp price back toward spot.

  • Funding rate drives open interest changes: Persistently high positive funding attracts new short positions from arbitrageurs and cash and carry traders who collect funding income, increasing open interest. Conversely, very high funding costs drive overleveraged longs to close, decreasing open interest. Negative funding has the reverse effect — it attracts new longs and pushes out shorts.

  • Divergence as a warning signal: When open interest rises rapidly while funding stays flat or low, it may indicate that both sides are entering equally (balanced new positioning). But when open interest rises alongside extreme funding, it signals a dangerous one-sided buildup. Liquidation cascades in these conditions are especially violent because the large open interest provides fuel for a chain reaction of forced closures.

  • Post-liquidation reset: After a liquidation cascade, both metrics normalise together — open interest drops as positions are forcefully closed, and funding rate resets toward baseline as the directional imbalance is cleared. This often marks a local bottom (after long liquidations) or local top (after short liquidations).

Delta neutral strategies like Ethena continuously monitor both open interest and funding rate to size their positions and assess the sustainability of funding yield — high funding is only profitable if it persists, and high open interest on one side is a leading indicator that it may not.

See also