Crypto traps in the bear market: What are the "pits" in the loan option model?

The sluggish primary market in the crypto industry in the past year has turned back to the pre-liberation period, and various human nature and "decentralization" regulatory loopholes in the "bear market" have been exposed. In the industry, market makers should be the "helpers" of new projects, helping projects gain a foothold by providing liquidity and stabilizing prices. But there is a cooperation method called the "loan option model" that can be widely happy in a bull market, but in a bear market, it is being abused by some inauthentic actors, quietly harming small crypto projects, causing trust collapse and market chaos. Traditional financial markets have encountered similar problems, but they rely on mature regulatory and transparent mechanisms to minimize the damage. Personally, I believe that the crypto industry can learn something from traditional finance, solve these chaos, and create a relatively fair ecology. This article will talk in depth about the operation of the loan option model, how it digs holes for projects, comparisons of traditional markets, and discussions on the current situation.

1. Loan Options Model: Sounds good, but actually has a pitfall

In the crypto market, the task of market makers is to ensure that the market has enough trading volume by frequently buying and selling tokens, and prices will not fluctuate because no one buys or sells them. For projects that are just starting out, finding a market maker to cooperate is almost a must -otherwise it will be difficult to go to 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 market makers, which is usually free or very low-cost; the market makers use these tokens to "make markets" on exchanges to maintain market activity. There is often an option clause in the contract, allowing market makers 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 this is a win-win deal: the project party receives market support, and the market makers earn some trading difference or service fees. But the problem lies in the "flexibility" of option terms and the opacity of contracts. The information between the project party and the market maker is not equal, which gives some dishonest market maker the opportunity to take advantage of loopholes. They took the borrowed tokens, not to help with projects, but to mess up the market and put their profits first.

2. Predatory behavior: How did the project get cheated

If the loan option model is abused, it can really hurt the project. The most common method is to "smash the market": market makers throw the borrowed tokens into the market, and the price is instantly lowered. When retail investors see something is wrong, they sell it and the market is completely panicked. Market makers can make profits, such as by "short selling" - first selling tokens at a high price, and then buying them back at a low price to return them to the project party. The difference is their profit. Or, they use option terms to "repay" the tokens at the lowest price, at an outrageous cost.

This kind of operation is devastating to small projects. We have also seen many cases where the token price is cut in half within a few days, and the market value evaporated directly. It is basically impossible to refinance the project. What’s worse is that the lifeblood of crypto projects is community trust. Once the price collapses, investors either think that the project is a “scam” or completely lose confidence and the community will scatter. The exchange has requirements for the stability of token trading volume and price. A price plummeting may directly lead to removal, and the project is basically "cold".

To make matters worse, these cooperation agreements are often hidden behind the confidentiality agreement (NDA), and outsiders cannot see the details. Most project teams are newbies from technical backgrounds and have a weak awareness of financial markets and contract risks. Faced with experienced market makers, they were completely led by the nose and had no idea what "pit" they signed. This information asymmetry has made small projects the "fat meat" of predatory behavior.

3. Other pitfalls

In addition, we have also encountered many cases reported by customers. In addition to the pitfalls of selling borrowed tokens and abusing option terms and closing low prices in the "loan option model", market makers in the crypto market also have a bunch of other tricks that specifically cause inexperienced small projects. For example, they will engage in "selling and selling", buy and sell each other with their own accounts or "vards", and make false trading volumes appear to be very popular and attract retail investors to enter the market. However, once they stop, the trading volume will immediately return to zero, the price will collapse, and the project may be kicked out by the exchange.

"Invisible Knife" is often hidden in the contract, such as high margins and outrageous "performance bonuses", which even allow market makers to get tokens at low prices and sell at high prices after listing, creating selling pressure to cause prices to plummet, retail investors suffer heavy losses, and the project side takes the blame. Some market makers take advantage of their information to know the good or bad project in advance, engage in insider trading, raise prices and lure retail investors to sell after taking over, or spread rumors to lower prices and absorb funds. Liquidity "kidnapping" is even more ruthless. They threaten to raise prices or withdraw funds after relying on services, and if they do not renew the contract, they will smash the market, making the project party unable to move.

Some also promote "family bucket" services, such as marketing, public relations, and market pull-up. They sound high-end, but in fact they are all fake traffic. After the price rises, the project party even causes trouble after it spends a lot of money. What's more, market makers serve multiple projects at the same time, are biased towards large customers, deliberately lower the prices of small projects, or transfer funds between projects to create "one rises and the other falls", causing small projects to lose money. These pitfalls all take advantage of loopholes in crypto market supervision and the weaknesses of project parties' lack of experience, which has caused the project's market value to evaporate and the community to disband.

4. Traditional finance: There are similar problems, but they are handled

better

Traditional financial markets—such as stocks, bonds, and futures—have actually encountered similar troubles. For example, the "bear market attack" is to sell stocks in large quantities, lower the stock price, and then make money from shorting. When making a market, high-frequency trading companies sometimes use super fast algorithms to seize the initiative, amplify market fluctuations, and make their own money. In the OTC market, opacity in information also gives some market makers the opportunity to make unfair quotes. During the 2008 financial crisis, some hedge funds were accused of maliciously shorting the bank stocks, pushing market panic to a climax.

But then again, the traditional market has already had a very mature way to deal with these problems, and it is worth learning from the crypto industry. Here are a few key points:

• Strict regulation: In the United States, the Securities and Exchange Commission (SEC) has a set of "SHO" that requires that before selling a short sell, you must ensure that the stock can be borrowed and prevent "naked short selling". There is also a "up price rule", which stipulates that short selling can only be carried out when the stock price rises, and restricts malicious price reduction. Market manipulation is explicitly prohibited. Those who violate Article 10b-5 of the Securities Exchange Law may be fined to lose all their money or even go to prison. The EU also has a similar Market Abuse Regulations (MAR), which specifically deals with price manipulation.
• Information transparency: Traditional markets require listed companies to report their agreements with market makers to regulators, and transaction data (price, transaction volume) can be publicly verified, and retail investors can see it through the Bloomberg terminal. Any large-scale transaction must be reported to prevent secretly "smashing the market". This transparency makes market makers dare not do anything randomly.
• Real-time monitoring: The exchange uses algorithms to monitor the market and find abnormal fluctuations or trading volumes, such as a stock suddenly plummeting, which will trigger an investigation. The circuit breaker mechanism is also very practical. When the price fluctuates too much, transactions will be automatically suspended to give the market a breath and avoid panic spread.
• Industry norms: Institutions like the US Financial Industry Regulatory Authority (FINRA) have agreed on ethical standards for market making, requiring them to provide fair quotes and maintain market stability. The designated market maker (DMM) of the New York Stock Exchange must meet strict capital and behavior requirements, otherwise it will not be able to do it.
• Protect investors: If market makers mess up the market, investors can hold them accountable through class action lawsuits. After 2008, many banks were sued by shareholders for manipulating the market. There is also Securities Investor Protection Company (SIPC), which provides certain compensation for losses caused by brokers' misconduct.

Although these measures are not perfect, they do make the traditional market less predatory behavior. I think the core experience of the traditional market is to combine supervision, transparency and accountability, and build a multi-level protection network.

5. Why is the crypto market so easy to get caught?

I think the crypto market is much more fragile than the traditional market, and there are several main reasons:

Improving supervision: The traditional market has hundreds of years of supervision experience and the legal system is very complete. What about the crypto market? Global regulation is like a puzzle, and many places do not have clear regulations on market manipulation or market makers at all, and bad actors are simply in the water.

The market is too small: the market value and liquidity of cryptocurrencies are far inferior to those of US stocks. The operation of a single market maker can make the price of a token dramatically change, and large-cap stocks in traditional markets are not so easy to be manipulated.

The project team is too "tender": Many crypto project teams are technical geeks and know nothing about finance. They may not have realized the pitfalls of the loan option model at all, and were confused by market makers when signing the contract.

Opacity: The crypto market likes to use confidentiality agreements, and the details of the contract are hidden strictly. In the traditional market, this kind of secret has long been targeted by 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 by these chaos.