Derivatives are powerful financial instruments that derive their value from the performance of an underlying asset—such as cryptocurrencies, commodities, or indices. These tools play a crucial role in modern trading by enabling market participants to hedge risk, speculate on price movements, and gain leveraged exposure without owning the actual asset.
In the world of digital assets, derivatives have become increasingly popular due to their flexibility and efficiency. This guide provides a comprehensive overview of key derivative types, margin mechanics, pricing models, and essential concepts that every trader should understand before entering the market.
Types of Derivative Contracts
Perpetual Contracts
Perpetual contracts are one of the most widely used derivatives in crypto trading. Unlike traditional futures, they do not have an expiration date, allowing traders to hold positions indefinitely.
These contracts are typically margined in stablecoins like USDT and USDC, or in the base cryptocurrency itself (e.g., BTC or ETH), known as coin-margined contracts.
Funding Mechanism
To keep the contract price aligned with the spot market, perpetuals use a funding rate mechanism. Every 8 hours—at 00:00, 08:00, and 16:00 UTC—funding fees are exchanged between long and short position holders:
- If the funding rate is positive, longs pay shorts.
- If the funding rate is negative, shorts pay longs.
👉 Discover how real-time funding rates can impact your trading strategy.
The funding fee is calculated using this formula:
Funding Fee = Position Value × Funding Rate
This system helps prevent prolonged price divergence between the perpetual contract and the underlying asset’s spot price.
Futures Contracts
Futures contracts are time-bound agreements to buy or sell an asset at a predetermined price on a specific future date. On platforms like Bybit, futures are available in multiple settlement currencies: USDT, USDC, and the underlying asset (inverse futures).
Expiration Schedule
Futures contracts follow standardized expiration cycles:
- Weekly (current, next, third week)
- Monthly (current, next, third month)
- Quarterly (current, next quarter)
Settlement Process
At expiration, the settlement price is determined by the average index price over the last 30 minutes before 8:00 AM UTC.
- USDT/USDC futures are cash-settled—profits or losses are paid in stablecoins.
- Inverse futures settle directly in the underlying cryptocurrency (e.g., BTC).
This structure allows traders to plan their exits and manage rollover strategies effectively.
Options Contracts
Options give traders the right—but not the obligation—to buy (call option) or sell (put option) an asset at a set price before or at expiration. Bybit offers European-style options, meaning they can only be exercised at expiry, with BTC, ETH, and SOL as underlying assets.
Pricing is based on:
- Last Traded Price (LTP) of the underlying
- Implied Volatility (IV)
- Time to expiration
- Interest rates
- Strike price
Settlement and margining occur in USDT or USDC, making it accessible for traders who prefer stable-value accounting.
Implied volatility is modeled using advanced frameworks like:
- Spline Volatility Surface
- SABR Volatility Surface
These models enhance accuracy in pricing and risk assessment across different strike prices and maturities.
Margin Types in Derivatives Trading
Margin is the collateral required to open and maintain leveraged positions. Understanding margin types is essential for managing risk and avoiding liquidation.
Initial Margin
This is the amount of funds needed to open a new position or increase an existing one. It varies based on leverage and contract size.
Maintenance Margin
The minimum equity that must remain in your account to keep a position open. If your account balance falls below this level due to losses, you may face liquidation.
👉 Learn how proper margin management can protect your capital during volatile markets.
Effective use of margin allows traders to amplify gains—but also increases potential losses. Always assess your risk tolerance and use stop-losses or take-profit orders where possible.
Understanding Index Price
The Index Price represents the true market value of the underlying asset by aggregating data from multiple spot exchanges. It prevents manipulation and ensures fair valuation across derivative contracts.
It is calculated as a volume-weighted average of prices from major exchanges, adjusted for:
- Data reliability
- Trading volume
- Deviation from the mean price
This composite price feeds into both mark price calculations and settlement mechanisms, ensuring alignment with real-world market conditions.
What Is Mark Price?
The Mark Price estimates the fair value of a derivative contract and is used to calculate unrealized profits and losses as well as trigger liquidations when necessary.
Different contract types use distinct methodologies:
Perpetual Contracts
Mark Price = Median (Price 1, Price 2, Last Traded Price)
Where:
- Price 1 = Index Price × [1 + Last Funding Rate × % Time Remaining Until Next Funding]
- Price 2 = Index Price + 5-minute moving average of mid-prices relative to index
The 5-minute moving average is derived from:
Moving Average [(Bid + Ask)/2 − Index Price], sampled every second.
Futures Contracts
Mark Price = Index Price × (1 + Basis Rate)
The basis rate reflects the premium or discount of the futures price relative to the index.
Options Contracts
Uses the Black-76 model, which incorporates:
- Forward price
- Strike price
- Time to expiration
- Risk-free interest rate
- Implied volatility (IV)
Advanced volatility surfaces ensure accurate IV interpolation across various maturities and strikes.
Frequently Asked Questions (FAQ)
Q: What is the difference between perpetual and futures contracts?
A: Perpetual contracts have no expiry date and rely on funding rates to track spot prices, while futures contracts expire on set dates and settle based on an average index price.
Q: Why does funding occur every 8 hours?
A: Regular funding intervals help maintain price alignment between perpetual contracts and the underlying spot market, reducing arbitrage opportunities.
Q: How is liquidation triggered?
A: When the Mark Price reaches your position’s Liquidation Price due to adverse price movement, your position may be automatically closed to prevent further losses.
Q: Can I trade options without exercising them?
A: Yes. Most traders close their options positions before expiry to capture profit or limit loss without needing to exercise.
Q: What happens if I hold a futures contract past expiration?
A: The contract will be automatically settled at the predetermined settlement price. You’ll receive your PnL in the settlement currency (e.g., USDT or BTC).
Q: Why use index pricing instead of last traded price?
A: Index pricing reduces vulnerability to flash crashes or spoofing by using a broad market average rather than a single exchange’s volatile data.
Final Thoughts
Derivatives offer sophisticated tools for managing exposure, speculating on price moves, and enhancing portfolio performance. Whether you're trading perpetuals, futures, or options, understanding core concepts like margin, funding, index price, and mark price is vital for success.
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By mastering these mechanics, traders can navigate volatile markets with greater confidence, minimize risks, and make informed decisions aligned with their financial goals.
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