Hyperliquid ignites the Perp DEX frenzy, while its exposed 5 major mechanism vulnerabilities are driving the reconstruction of the next generation protocols.
Written by: Rui
Compiled by: Saoirse, Foresight News
Hyperliquid has ignited the frenzy phase of decentralized perpetual contract exchanges (Perp DEX), accounting for 8.62% of centralized exchange (CEX) traffic. However, we must face some implicit problems in this field and build a framework to ensure that the transition towards decentralization is truly irreversible.
TL;DR
Liquidity illusion: High trading volume ≠ good liquidity. Bid-ask spreads, slippage, and taker fees can lead to price impact and execution losses, but related indicators may be artificially inflated due to incentive mechanisms.
Hidden costs: The order book model requires significant market maker subsidies, while automated market makers (AMMs) face challenges in scaling their liquidity provision, both encountering economic challenges.
Black box clearing: System security must be prioritized over user convenience, necessitating risk control for open contracts (OI), multi-source clearing mechanisms, and verifiable proofs, especially highlighted in pre-market trading scenarios.
Trade sorting sacrifice: There is a trade-off between prioritizing retail traders or high-frequency trading (HFT), which is essentially a choice between fairness and efficiency.
Inefficient margin: A dynamic and efficient margin system needs to be built, incorporating yield-bearing collateral, loan integration, and hedging identification functions to match the efficiency of centralized exchanges.
Illusion of liquidity
Although trading volume is a conventional metric, it can be misleading when token incentives artificially create false trading. Even with the same trading volume data, retail trading is more valuable than 'speculative trading' due to its stability and sustainability.
Perp DEX trading volume and open contracts
The ratio of open contracts to trading volume (OI-to-Volume) reflects real trading activity. Centralized exchanges without APIs typically show a ratio of 1:2 or 1:3. Hyperliquid's hourly fee rate and order cancellation priority mechanism achieve a higher ratio of 1:1, whereas other decentralized exchanges that have not yet issued tokens often have lower ratios due to token incentives prompting false trading to inflate trading volume. Additionally, fee income is crucial for the platform's sustainability, as it provides incentives and can directly constitute a security buffer.
Liquidity is the ultimate measure of a platform's usability. A narrow bid-ask spread can reduce the cost of entering and exiting the market, low slippage ensures stable pricing for large orders, and sufficient market depth can prevent price fluctuations during trades. From comparative data, Hyperliquid performed excellently when handling large positions over 20 million dollars; whereas edgeX is more friendly to retail traders, having the deepest liquidity within 1 basis point (bps), the lowest slippage in most trade sizes, and the narrowest spreads.
Order book comparison
Hidden costs
Liquidity is a typical 'cold start problem': traders are unwilling to enter platforms with scarce orders, and market makers will also avoid platforms that lack liquidity.
Order book models have higher capital efficiency but require significant upfront capital investment for market making. Market maker requirements are often stringent: for example, a perpetual contract team may charge a fee of 0.035%, but after paying the market maker 0.01% and returning 0.01% to users, only 0.015% remains. If the team's monthly operating cost is 500,000 dollars, the daily trading volume must reach at least 111.1 million dollars to break even. This simple calculation also explains why most newcomers fail.
Perp DEX funding and market maker terms example
Automated market maker (AMM) models reduce the capital threshold through liquidity provider (LP) pools and can achieve 'cold starts' through incentive mechanisms (GMX and Ostium are typical examples). However, this model has excessive 'house advantages' and cannot support large trades. Hyperliquid has explored a more sustainable development path by transitioning from the LP pool model to the order book model.
Black box clearing
Single internal clearing sources are easy to manipulate. For example, during the XPL incident on August 26, 2025, a large holder pushed the XPL price from 0.6 dollars to 1.8 dollars within minutes, while prices on other platforms remained stable (centralized exchanges have a circuit breaker mechanism in pre-market trading to limit abnormal price fluctuations), ultimately leading to 85% of short positions being liquidated, resulting in a loss of 25 million dollars. Although in most cases, multi-source marked pricing is superior (increasing manipulation costs), and Hyperliquid has adopted this mechanism for most assets, when the platform pursues 'first mover advantage' but lacks reliable external pricing sources, pre-market trading scenarios face unique challenges.
Hyperliquid's XPL incident and price index
The clearing process lacks transparency and verifiability. Binance claims to use 'three-source median' pricing, but on August 25, 2025, the ETH/USDC clearing price was 4918 dollars, while the visible pricing range was 4786-4862 dollars, making the result difficult to explain. Due to the lack of timestamps, centralized exchanges’ clearing is unpredictable and unverifiable. Although Hyperliquid has achieved some improvement by putting node oracle prices on-chain, the internal matching engine and centralized exchange API have still not been verified.
Binance liquidation example
The free market has its limitations. Hyperliquid initially adopted a trader-friendly model that allowed traders to open positions freely, and maintained margin during liquidation through order book execution. However, during the 'JELLY incident,' the platform was forced to close the market and settled at prices favorable to itself, setting a worrying precedent. Although isolated automatic liquidation (ADL) and dynamic open interest (OI) cap mechanisms were subsequently added, the XPL incident still exposed similar vulnerabilities.
Essentially, building a clearing mechanism that is both fair and robust is a highly challenging task. Hyperliquid has taken a bold step towards openness and efficiency, but this 'freedom' may also breed vulnerabilities—colluding manipulators may gain advantages over smaller traders. Introducing a volatility cap may be a more ideal improvement direction.
The HLP fund pool remains profitable because traders are at a loss.
Trade sorting sacrifice
The core trade-off in trade sorting lies between 'fairness/accessibility' and 'efficiency/volume.' Hyperliquid chooses to prioritize fairness by setting a 'speed buffer' (buffer of 3 blocks in the memory pool + cancellation order priority), protecting retail traders and small market makers from the 'harvesting' of complex high-frequency trading (HFT). This mechanism creates a more inclusive trading environment, allowing less experienced participants to provide narrow spreads without worrying about adverse selection risk. However, the cost of this protection is that the overall liquidity and trading volume growth of the platform is limited (compared to Binance)—because it hinders the natural 'survival of the fittest' competition among market makers, which is key to driving real price discovery. As Enzo proposed, the 'barbell strategy' may simultaneously meet the needs of both retail and high-frequency trading extreme users.
Inefficient margin
Centralized exchanges have higher margin flexibility because these margins are merely displayed numbers and do not require actual capital to be occupied before users withdraw. Decentralized exchanges face greater challenges and cannot simply increase flexibility by lowering margin requirements. In addition to the conventional cross-margin system, optimization can be achieved through the following strategies:
Yield-bearing positions: Short-term government bonds have the lowest risk but come with trade-offs. BlackRock's BUIDL product requires real-name authentication (KYC), while other similar products with looser restrictions lack liquidity. The on-chain monthly yield reset mechanism introduces operational complexity, while Binance's daily annualized yield product RWUSD reflects the advantages of centralized exchanges. Yield-bearing stablecoins, while potentially promising, often lack sufficient liquidity to support perpetual contract trading.
Separating collateral and margin through lending: Using native assets as collateral to borrow USDC as margin can enhance flexibility. For example, using 1 BTC as collateral, borrowing USDC for trading margin. Drift's model allows SOL and other assets to be used as collateral based on the loan-to-value (LTV) ratio, with all trades settled in USDC. However, the risk systems of lending and perpetual contracts are significantly different: in lending scenarios, a liquidation failure results in bad debt (due to the lack of an automatic liquidation mechanism); moreover, very few participants are willing to fund insurance, leading to bad debt ultimately borne by lenders. Centralized exchanges can set risk limits and cover occasional losses with profits, but this is difficult to achieve in DeFi, as most liquidation profits belong to the liquidators, and the protocol itself lacks risk buffer funds.
Hedging identification in the margin system: An intelligent margin system should be able to identify 'natural hedge' positions to reduce margin requirements. For example, when using USDE as collateral while shorting Ethereum (ETH), these two positions are negatively correlated (ETH collateral + ETH short), meaning that bad debt is likely only if the decoupling of perpetual contracts exceeds 90%.
Conclusion
Clearly, the future Perp DEX needs to have a capital-efficient margin system, competitive spreads, extremely low slippage, and strategically deployed incentive mechanisms to build a sustainable development path.
However, there are still key trade-offs in this area, ultimately depending on the market philosophy of the protocol: how the platform handles unrestricted open contracts, how it accommodates large traders, how it balances the execution preferences of retail and high-frequency traders, and how it coordinates trader protection with system security—these subtle differences will greatly impact the platform's user base and use cases.
'Decentralization' is often misunderstood in this field; most Perp DEXs merely shift centralized risks from the 'custodial' aspect to more hidden 'execution' and 'clearing' aspects. Quality protocols should be designed from the core value and always maintain robust market integrity. Currently, leveraging advanced infrastructures like LayerZero and Monad, new design solutions are continuously emerging, signaling that a new generation of Perp DEX is on the horizon.
