Marty McFly goes DeFi: An Overview of Decentralized Futures Exchanges

The largest business in DeFi today is decentralized exchange. Specifically, the exchange of actual tokens where the token exchanged for is physically owned upon execution on protocols like Uniswap and Sushiswap. In trading parlance, this is called trading ‘spot’.

One would be inclined to believe the largest business in decentralized exchanges would correlate to the largest businesses in centralized exchanges (CEXs). However, in terms of trading volume, spot exchanges on CEXs are in fact 10% to 20% smaller than the largest business — futures trading.

CEX spot markets did $2.3 trillion in volume in May compared to the $160 billion in volume done on spot DEXs. That comes out to roughly 6.5% trading volume market share for DEXs. Futures markets — the largest volume product on CEXs — tell a different story. $2.6 trillion in futures were traded on CEXs in May versus the just $10.7 billion traded on decentralized futures markets. That’s 0.4% trading volume market share for decentralized platforms. CEXs do over 110% of the spot volumes in futures markets while decentralized counterparts do just 6% — what gives?

Why does this discrepancy exist currently? What market dynamics matter and what is changing within these dynamics? Which protocols are leading the way and why?

Why Spot > Derivatives in DeFi

Spot exchanges in DeFi leading the way makes sense for three key reasons. The first is that DeFi grew up on Ethereum where slow transaction settlement times and high cost make running a decentralized futures market not feasible as the base layer. The second is that physical tokens have added utility and hence value in DeFi compared to being simply stored on a centralized exchange. Tokens are used for many things including liquidity provisioning, yield farming, governance, staking, borrowing collateral and more. To get these tokens you need to swap for them on decentralized spot exchanges. Perpetual contract positions currently do not have the same composability or token utilization within the DeFi ecosystem as the underlying tokens and therefore offer little advantages over the analogous perpetual markets on CEXs.

The third reason is that decentralized perpetual platforms lack overall market depth/size. There is only so much liquidity to trade against in these protocols in the current state. Protocols themselves too don’t have quite the size of insurance funds to backstop large scaling trading seen on centralized platforms at the moment. Of course, these are issues solved over time as liquidity and trading activity moves into these markets.