Leverage Decay Mechanics

Leverage decay is the phenomenon where a leveraged position loses value over time due to the costs of maintaining the position, such as funding rates or interest, even if the underlying asset price remains flat. This is particularly prevalent in perpetual futures contracts.

The funding rate acts as a mechanism to keep the perpetual price in line with the spot price. If the funding rate is consistently positive, long positions pay short positions, leading to a slow erosion of capital.

Understanding leverage decay is essential for long-term holders of leveraged positions. It is a critical cost factor that is often overlooked by retail traders.

Protocols must clearly communicate these costs to users to manage expectations and risk. It is a fundamental feature of the perpetual derivative model.