Funding Rates

Introductory

Funding rates help keep the price of a perpetual contract in line with the price of the actual asset it represents. They are periodic payments between long and short traders, based on the difference between the perp price and the oracle-reported price of the underlying asset.

How It Works:

• If the perp price is above the underlying price, long traders pay funding to short traders.
• If the perp price is below the underlying price, short traders pay funding to long traders.

The funding rate therefore creates incentives to correct the perp price:

• If the perp price is above the underlying asset's price, shorts earn funding and longs pay funding. This incentivizes traders to:
  1. Open short positions (driving the price down)
  2. Close long positions (driving the price down)
  3. Profit by selling perps and buying the asset until prices converge (further driving the price down)
• If the perp price is below the underlying asset's price, longs earn funding and shorts pay funding. This incentivizes traders to:
  1. Open long positions (driving the price up)
  2. Close short positions (driving the price up)
  3. Profit by buying perps and selling the asset until prices converge (further driving the price up)

This system automatically adjusts based on the size of the price difference. On Klyra, funding payments occur hourly to maintain alignment.

Advanced

Funding Rate Components and Calculation

The funding rate has two components:

1. Premium: Calculated separately for each market based on the perpetual's market price
2. Interest rate

On Klyra, every validator calculates the premium for a given market based on these steps:

• Every second: Validators sample the premium based on price differences
• Every minute: Second-by-second samples are averaged
• Every hour: The past 60 minute averages are combined into a final premium. The median of all validators' premiums is used as the canonical premium for a market.

Hourly Settlement

The final funding rate combines the premium with the interest rate and settles hourly. This ensures that price corrections are timely and responsive to market conditions.

Hourly settlement strikes an effective balance. Settling too infrequently risks allowing prices to deviate significantly from the underlying price, while hourly intervals ensure timely corrections. Hourly funding is also practical because the costs of opening and closing positions typically exceed the funding fees accrued within an hour, making it difficult to game the system. Additionally, settling every hour keeps computational costs manageable while maintaining responsiveness.

Premium Calculation

Every second, the premium is sampled as follows:

Premium = (Max(0, Impact Bid Price - Index Price) - Max(0, Index Price - Impact Ask Price)) / Index Price

With the following definitions:

• Impact Bid Price: Average execution price for a market sell of the impact notional value
• Impact Ask Price: Average execution price for a market buy of the impact notional value
• Impact Notional Amount: USD 500 / Market initial margin. This is set in the liquidity tier configuration for that market and can be changed by governance. The BTC-USD market, for example, has an impact notional of USD 10,000.

The premium formula simplifies to the following:

If Impact Bid Price <= Index Price <= Impact Ask Price, the premium is 0

If Index Price < Impact Bid Price: Premium = (Impact Bid Price - Index Price) / Index Price = Impact Bid Price / Index Price - 1

If Impact Ask Price < Index Price: Premium = (Impact Ask Price - Index Price) / Index Price = Impact Ask Price / Index Price - 1

Interest Rate Calculation

The second component of the funding rate is the fixed interest rate. This exists to support carry trades (read more about carry trades here), which are executed by sophisticated traders to help realign the perpetual price with the underlying asset price. The interest rate is deliberately set to a non-zero value (typically 8-12%) to ensure these carry trades become profitable when prices diverge, thereby incentivizing traders to help maintain price alignment.

The interest rate is set for each market according to the following formula:

Interest Rate = (Interest Quote Index - Interest Base Index) / Funding Interval

Where:

• Interest Quote Index: The interest rate for borrowing the quote currency (e.g., USDC in a BTC-USD market)
• Interest Base Index: The interest rate for borrowing the base currency (e.g., BTC in a BTC-USD market)
• Funding Interval: 24 hours divided by the funding frequency. In our case, this is 3 (as we calculate for 8-hour periods, while subdividing into hourly settlements)

Funding Rate Calculation

Once we have calculated the premium and the interest rate, the funding rate is calculated as follows:

Funding Rate = (Premium Component + Interest Rate Component) * Time Since Last Funding / 8 hours

Since the Time Since Last Funding will typically be roughly 1 hour, the final calculation for the funding rate looks as follows:

Funding Rate = (Premium Component + Interest Rate Component) / 8

In order to protect traders, there is a maximum cap on the 8-hour funding rate. The particular cap depends on the market and is calculated as follows:

8-hour Funding Rate Cap = 600% * (Initial Margin - Maintenance Margin Requirement)

For example, if the Initial Margin is 6% and the Maintenance Margin Requirement is 3%, then the 8-hour Funding Rate Cap is 18%. To read more about marging requirements, refer to the liquidations page.