CoinEx | The Funding Fee of Futures Contracts: A Must-know Concept for Controlling the Gap Between Spot Price and Contract price
Most traders of futures contracts have heard of a term called Funding Fee. What does it mean? What are its functions? Today, we will illustrate its definition and roles in detail.
In the case of BTC futures contracts, which use the BTC price as the index price, how do we make sure the contract price stays the same as the spot price? Since futures contracts come with a settlement date, as we approach the settlement date, the futures price often moves towards the spot price, eventually coinciding with the latter. Futures contracts, on the other hand, differ from conventional futures as they do not have an expiration/settlement date. Does this mean that the price of futures contracts is not bound by any factors?
The answer is no. Futures contracts are bound by the Funding Fee, which is used to peg the price of such contracts to the spot price. For example, if the price gap between BTC futures contracts and BTC spot becomes excessive, the Funding Fee will drag the gap back to a reasonable level, which begs the question — How is this achieved?
Let’s check it out in the context of the futures contract mechanism adopted by CoinEx. On CoinEx, the Funding Fee pegs the market price to the spot price so that the price of futures contracts moves toward the latter. When the contract price is higher than the spot price (i.e. a positive Funding Rate), a portion of the long funds will be transferred to the short funds so that some long positions will be closed to drag down the price; when the contract price is lower than the spot price (i.e. a negative Funding Rate), a portion of the short funds will be transferred to the long funds so that some short positions will be closed to push up the price.
Through this process, CoinEx manages to make ensure that the contract price roughly stays the same as the spot price. If there is an unreasonable gap, the Funding Fee will push up/drag down the contract price, driving it towards the spot price. Such a mechanism also bridges the price gap between the contract market and the spot market, letting prices return to a normal level while preventing the malicious manipulation of the contract price.
It is also noteworthy the Funding Fee of futures contracts is not charged by the platform. In other words, CoinEx does not charge any Funding Fees. Instead, the fee is paid by/to short traders or long traders, and who pays the bill is decided by whether the Funding Rate is positive.
On CoinEx, the Funding Fee is paid/received every 8 hours, and only traders with an existing position on the settlement hour need to pay/receive the fee. In addition, in the event of forced liquidation, CoinEx reduces the size of your loss through mechanisms such as the Insurance Fund and Auto-Deleveraging (ADL).
That said, how is the Funding Rate determined?
On CoinEx, the Funding Fee is settled three times a day: 00:00, 08:00, and 16:00 (UTC). Simply put, you’ll only have to pay/receive the Funding Fee if you hold a position at these three timestamps. However, if your position is closed at a different time, no Funding Fees will be charged.
The Funding Fee is determined according to the Funding Rate one minute before the last settlement hour. For example, upon settlement at 8:00 (UTC), the Funding Fee is determined according to the Funding Rate at 23:59 (UTC).
Finally, let’s go through the formula for calculating the Funding Rate:
Funding Fee= Position Value * Funding Rate
Funding Rate = Clamp (MA (((Impact Bid Price + Impact Mark Price) / 2-Spot Price) / Spot Price-Interest), a, b)
*Currently, Interest is 0.
* Impact Bid Price = the average price of “Impact Margin Amount” for bidders
* Impact Mark Price = the average price of the “Impact Margin Amount” for sellers
* “Impact Margin Notional” refers to the total amount of the order book.