In the past year, the primary market of the crypto industry has been sluggish, and some of it has returned to the pre-liberation era. In the "bear market", various human nature and "decentralized" regulatory loopholes have been exposed. In the industry, market makers should be the "helpers" of new projects, helping projects to gain a foothold by providing liquidity and stabilizing prices. However, there is a kind of cooperation method called "loan option model" that can be generally happy in the bull market, but it is being abused by some unscrupulous actors in the bear market, quietly harming small crypto projects, causing trust collapse and market chaos. Traditional financial markets have also encountered similar problems, but they have minimized the damage by relying on mature supervision and transparent mechanisms. Personally, I think the crypto industry can learn something from traditional finance to solve these chaos and create a relatively fair ecosystem. This article will talk in depth about the operation of the loan option model, how it digs holes for projects, the comparison with the traditional market, and the current situation.
1. Loan option model: sounds good, but there are pitfalls
In the crypto market, the task of market makers is to ensure that there is enough trading volume in the market by frequently buying and selling tokens, and that prices do not fluctuate greatly because no one is buying or selling. For projects that are just starting out, it is almost necessary to find a market maker to cooperate with - otherwise it is difficult to go on the exchange and attract investors. The "loan option model" is a common way of cooperation: the project party lends a large number of tokens to the market maker, usually for free or at a very low cost; the market maker takes these tokens to the exchange to "make a market" to maintain an active market. There is often an option clause in the contract that allows the market maker to return the tokens at a certain price at a certain point in the future, or simply buy them, but they can choose not to do so.
It sounds like a win-win deal: the project gets market support, and the market maker earns some transaction spread or service fees. But the problem lies in the "flexibility" of the option terms and the opacity of the contract. The information asymmetry between the project and the market maker gives some dishonest market makers the opportunity to exploit loopholes. They use the borrowed tokens not to help the project, but to mess up the market and put their own profits first.
2. Predatory Behavior: How Projects Are Scammed
If the loan option model is abused, it can really harm the project. The most common method is "dumping": market makers dump borrowed tokens into the market, and the price is instantly depressed. Retail investors see that something is wrong and sell them, and the market is completely panicked. Market makers can profit from this, for example, by "shorting" - first selling tokens at a high price, and then buying them back at a low price when the price collapses and returning them to the project party. The difference is their profit. Or, they use option terms to "return" tokens at the lowest price, at an absurdly low cost.
This operation is devastating to small projects. We have also seen many cases where the price of tokens was cut in half within a few days, the market value evaporated directly, and the project had basically no chance of raising funds again. What's worse is that the lifeblood of crypto projects is community trust. Once the price collapses, investors either think the project is a "scam" or completely lose confidence, and the community will be dispersed. Exchanges have requirements for the trading volume and price stability of tokens. A sharp drop in prices may directly lead to delisting, and the project will basically be "cooled down."
To make matters worse, these cooperation agreements are often hidden behind non-disclosure agreements (NDAs), and outsiders cannot see the details. Most of the project teams are newbies with technical backgrounds, and their awareness of financial markets and contract risks is still weak. Faced with experienced market makers, they are completely led by the nose and have no idea what "pitfall" they have signed. This information asymmetry makes small projects the "fat meat" of predatory behavior.
3. Other pitfalls
In addition, we have also come across many cases reported by customers. In addition to the pitfalls of the "loan option model" by selling borrowed tokens to suppress prices and abusing option terms to settle at low prices, the market makers in the crypto market also have a lot of other tricks to specifically harm inexperienced small projects. For example, they will engage in "wash sales", using their own accounts or "vests" to buy and sell each other, brushing out false trading volume, making the project look very popular and attracting retail investors to enter the market, but once they stop, the trading volume will immediately return to zero, the price will collapse, and the project may even be kicked out by the exchange.
There are often "invisible knives" hidden in contracts, such as high margins, outrageous "performance bonuses", and even letting market makers take tokens at low prices and sell them at high prices after listing, creating selling pressure and causing prices to plummet, retail investors to lose money, and the project party to bear the blame. Some market makers also take advantage of information advantages, know the good or bad news of the project in advance, engage in insider trading, raise prices to lure retail investors to take over and then sell, or spread rumors to lower prices to absorb funds. Liquidity "kidnapping" is even more ruthless. They make the project party rely on services and then threaten to increase prices or withdraw funds. If they do not renew the contract, they will smash the market and make the project party unable to move.
Some even promote "full-package" services, such as marketing, public relations, and price manipulation, which sound high-sounding, but are actually all fake traffic. The price is pushed up and then collapses, and the project party spends a lot of money and still gets into trouble. What's worse, market makers serve multiple projects at the same time, favor large customers, deliberately lower the price of small projects, or transfer funds between projects, creating a "one gains while the other loses", causing small projects to lose money. These pitfalls take advantage of loopholes in the supervision of the crypto market and the weaknesses of the project party's lack of experience, causing the project's market value to evaporate and the community to disband.
4. Traditional finance: Similar problems, but better handled
Traditional financial markets, such as stocks, bonds, and futures, have also encountered similar troubles. For example, a "bear market attack" is to sell a large number of stocks, depress the stock price, and then make money from short selling. When high-frequency trading companies make markets, they sometimes use super-fast algorithms to seize the opportunity, amplify market fluctuations, and make their own money. In the over-the-counter (OTC) market, information opacity also gives some market makers the opportunity to make unfair quotes. During the 2008 financial crisis, some hedge funds were accused of pushing market panic to a climax by maliciously shorting bank stocks.
But having said that, the traditional market has already developed mature methods to deal with these problems, which is worth learning from the crypto industry. Here are a few key points:
- Strict supervision: In the United States, the Securities and Exchange Commission (SEC) has a set of "Rule SHO" that requires that before short selling, it must be ensured that the stock can actually be borrowed to prevent "naked short selling". There is also an "upward price rule" that stipulates that short selling can only be done when the stock price rises, limiting malicious price suppression. Market manipulation is expressly prohibited. Those who violate Section 10b-5 of the Securities Exchange Act may be fined to the point of bankruptcy or even imprisonment. The European Union also has a similar "Market Abuse Regulation" (MAR) that specifically deals with price manipulation.
- Information transparency: Traditional markets require listed companies to report their agreements with market makers to regulatory agencies, and trading data (price, volume) is publicly available and can be viewed by retail investors through Bloomberg terminals. Any large transactions must be reported to prevent "dumping" secretly. This transparency makes market makers afraid to act recklessly.
- Real-time monitoring: Exchanges use algorithms to monitor the market and detect abnormal fluctuations or trading volumes, such as a sudden plunge in a certain stock, which will trigger an investigation. Circuit breakers are also very practical. When prices fluctuate too much, trading is automatically suspended to give the market a break and prevent panic from spreading.
- Industry regulations: Institutions such as the Financial Industry Regulatory Authority (FINRA) in the United States set ethical standards for market makers, requiring them to provide fair quotes and maintain market stability. Designated market makers (DMMs) on the New York Stock Exchange must meet strict capital and behavioral requirements, otherwise they cannot work.
- Investor protection: If market makers mess up the market, investors can pursue accountability through class action lawsuits. After 2008, many banks were sued by shareholders for market manipulation. There is also the Securities Investor Protection Corporation (SIPC), which provides certain compensation for losses caused by broker misconduct.
Although these measures are not perfect, they have indeed reduced the predatory behavior in traditional markets. I think the core experience of traditional markets is to combine supervision, transparency and accountability to build a multi-layered protection network.
5. Why is the crypto market so vulnerable?
I believe that crypto markets are much more vulnerable than traditional markets for several main reasons:
Immature regulation: Traditional markets have hundreds of years of regulatory experience and a sound legal system. What about the crypto market? Global regulation is like a puzzle, and many places have no clear regulations for market manipulation or market makers, which allows bad actors to thrive.
The market is too small: The market capitalization and liquidity of cryptocurrencies are far behind those of U.S. stocks. The operation of a single market maker can cause a token price to change dramatically, while large-cap stocks in traditional markets are not so easily manipulated.
The project team is too "naive": Many crypto project teams are technical geeks who know nothing about finance. They may not be aware of the pitfalls of the loan option model at all, and are fooled by market makers when signing the contract.
Opaque habits: The crypto market loves to use confidentiality agreements, and the details of the contract are kept strictly hidden. In the traditional market, this kind of secrecy has long been a target of regulators, but it is the norm in the crypto world.
These factors combined have made small projects the target of predatory behavior, and the trust and healthy ecology of the entire industry are being eroded bit by bit by these chaos.
