The Hidden Traps of the Encryption World: Potential Risks of Loan Options Models

Recently, the primary market performance of the encryption industry has been lackluster, with many projects facing severe challenges. In this "bear market," some human weaknesses and regulatory loopholes are gradually coming to light. Market makers should be a boost for new projects, helping them establish themselves by providing liquidity and stabilizing prices. However, a collaborative model known as "loan options model" may be a win-win in a bull market, but in a bear market, it is abused by some bad actors, secretly harming small encryption projects, leading to a collapse of trust and market chaos.

Traditional financial markets have faced similar issues in the past, but through comprehensive regulation and transparent mechanisms, they have minimized harm. The encryption industry can fully learn from the experiences of traditional finance to address these chaos and build a relatively fair ecosystem. This article will delve into the operational mechanisms of the loan options model, its potential harm to projects, comparisons with traditional markets, and an analysis of the current situation.

Loan Options Model: Surface Shiny, Hidden Risks

In the encryption market, the role of market makers is to ensure sufficient trading volume by frequently buying and selling tokens, preventing prices from fluctuating sharply due to a lack of buyers and sellers. For emerging projects, collaborating with market makers is almost a necessary path; otherwise, it is difficult to go online on exchanges or attract investors. The "loan options model" is a common form of cooperation: project parties lend a large number of tokens to market makers, typically at no cost or low cost; market makers use these tokens to perform "market making" operations on exchanges, maintaining market activity. Contracts often also include options clauses, allowing market makers to return tokens at an agreed price or purchase them directly at specific future points in time, but they can choose not to exercise this option.

On the surface, this seems like a win-win arrangement: the project party gains market support, and the market makers earn trading spreads or service fees. However, the root of the problem lies in the flexibility of the Options terms and the opacity of the contracts. The information asymmetry between the project party and the market makers provides opportunities for some dishonest market makers. They use borrowed tokens, not to help the project, but to disrupt the market, prioritizing their own interests.

Predatory Behavior: How Projects Suffer Damage

When the loan options model is abused, it can cause serious harm to the project. The most common tactic is "market smashing": market makers massively sell borrowed tokens into the market, causing prices to plummet rapidly. Retail investors panic upon seeing this and sell off in a herd, plunging the market into chaos. Market makers can profit from this, for instance, by "shorting"—selling tokens at a high price first, and then buying them back at a low price after the collapse to return to the project, earning the difference in between. Alternatively, they can use the options terms to "return" tokens at the lowest price, incurring very low costs.

This operation is devastating for small projects. We have seen many cases where the token price has been halved in just a few days, and the market value evaporated rapidly, making refinancing for the project nearly impossible. Worse still, the lifeline of encryption projects lies in community trust; once the price collapses, investors either believe the project is a "scam" or completely lose faith, leading to the disintegration of the community. Exchanges have strict requirements for the trading volume and price stability of tokens, and a price crash may directly lead to delisting, making the project's prospects worrisome.

Worsening the situation is that these cooperation agreements are often covered by non-disclosure agreements (NDAs), making it impossible for outsiders to understand the specific details. The project teams are mostly newcomers with a technical background and a relatively insufficient understanding of financial markets and contractual risks. When facing experienced market makers, they often find themselves at a disadvantage and may not even be aware of the "pits" they have signed. This information asymmetry makes small projects easy victims of predatory behavior.

Other Potential Risks

In addition to the traps in the "loan options model" where borrowed tokens are sold to depress prices and abuse option terms for low settlement, market makers in the encryption market have other tricks specifically targeting inexperienced small projects. For example, they may engage in "wash trading", using their own accounts or "aliases" to trade with each other, creating false trading volume, making the project appear popular to attract retail investors. However, once they stop their operations, the trading volume immediately drops to zero, the price collapses, and the project may face the risk of being delisted from exchanges.

Contracts often hide "traps" such as high margins, unreasonable "performance bonuses", and even allow market makers to acquire tokens at low prices and sell them at high prices after listing, causing selling pressure that leads to a price crash, resulting in losses for retail investors and responsibility for the project party. Some market makers exploit information advantages to learn about major project news in advance and engage in insider trading, inducing retail investors to buy in when prices rise and then selling, or spreading rumors to depress prices for low-cost acquisitions. Liquidity "kidnapping" is even more serious, as they make project parties dependent on their services and then threaten to raise prices or withdraw funds; if contracts are not renewed, they will crash the market, putting project parties in a difficult situation.

Some market makers promote "one-stop" services, including marketing, public relations, and price manipulation. On the surface, these services appear comprehensive, but in reality, they may represent fake traffic, with prices temporarily inflated before quickly collapsing. Project teams not only expend large amounts of capital but may also face legal risks. Moreover, some market makers serve multiple projects simultaneously, favoring large clients, intentionally lowering the prices of smaller projects, or transferring funds between different projects to create an effect of "this rises while that falls," resulting in significant losses for smaller projects. These traps exploit the regulatory gaps in the encryption market and the inexperience of project teams, leading to evaporating market values and the disintegration of communities.

The Response of Traditional Financial Markets

Traditional financial markets—such as stocks, bonds, futures, and other areas—have also faced similar challenges. For example, "bear market attacks" profit from short selling by massively dumping stocks to drive prices down. High-frequency trading firms sometimes use ultra-fast algorithms to gain an edge during market making, amplifying market fluctuations to profit. In the over-the-counter (OTC) market, the lack of transparency provides some market makers with opportunities for unfair pricing. During the 2008 financial crisis, some hedge funds were accused of maliciously shorting bank stocks, exacerbating market panic.

However, traditional markets have developed mature strategies to address these issues, which are worth learning from for the encryption industry. Here are a few key points:

Strict Regulation: The U.S. Securities and Exchange Commission (SEC) has established Rule SHO, which requires that stocks must be borrowed before short selling to prevent "naked short selling". The "up-tick rule" stipulates that short selling can only occur when stock prices are rising, limiting malicious price suppression. Market manipulation is explicitly prohibited, and violations of Section 10b-5 of the Securities Exchange Act may result in hefty fines or even criminal penalties. The European Union also has a similar Market Abuse Regulation (MAR) specifically targeting price manipulation.

Information Transparency: Traditional markets require listed companies to report agreements with market makers to regulatory authorities, and trading data (prices, trading volumes) is publicly accessible. Ordinary investors can obtain this information through financial terminals. Any large transactions must be reported to prevent covert "dumping". This transparency effectively curbs the misconduct of market makers.

Real-time Monitoring: The exchange uses algorithms to monitor the market, triggering an investigation process when abnormal fluctuations or trading volumes are detected (e.g., when a particular stock suddenly drops significantly). A circuit breaker mechanism is also widely applied, automatically pausing trading during excessive price fluctuations, providing the market with a cooling-off period to prevent the spread of panic.

Industry standards: Organizations like the Financial Industry Regulatory Authority (FINRA) establish ethical standards for market makers, requiring them to provide fair quotes and maintain market stability. Designated Market Makers (DMM) on the New York Stock Exchange must meet strict capital and conduct requirements, or they will lose their eligibility.

Investor Protection: If market makers disrupt market order, investors can hold them accountable through class action lawsuits. After the 2008 financial crisis, several banks were sued by shareholders for market manipulation. The Securities Investor Protection Corporation (SIPC) provides a certain level of compensation for losses caused by broker misconduct.

Although these measures cannot completely eliminate the problem, they have indeed greatly reduced predatory behavior in traditional markets. The core experience of traditional markets lies in the organic combination of regulation, transparency, and accountability mechanisms, which has built a multi-layered protection network.

The Vulnerability Roots of the Encryption Market

The encryption market is more susceptible to misconduct compared to traditional markets, mainly due to the following reasons:

Incomplete regulatory system: Traditional markets have hundreds of years of regulatory experience, and their legal systems are relatively well-established. In contrast, the global regulatory situation of the encryption market remains fragmented, with many regions lacking clear regulations against market manipulation or dealer behavior, providing opportunities for bad actors.

Small market size: The market capitalization and liquidity of cryptocurrencies still have a significant gap compared to mature stock markets. The operations of a single market maker can lead to drastic price fluctuations of a certain token, while large-cap stocks in traditional markets are less susceptible to such levels of impact.

Lack of experience from the project team: Many encryption project teams are primarily composed of technical experts and lack a deep understanding of the operation of financial markets. They may fail to fully recognize the potential risks of the loan options model and can easily be misled by market makers when signing contracts.

Lack of transparency: The encryption market commonly uses confidentiality agreements, and contract details are often not disclosed to the public. This secrecy has long been strictly regulated in traditional markets, but it has become the norm in the crypto world.

These combined factors make small projects easy victims of predatory behavior, while also continuously eroding the trust foundation and healthy ecosystem of the entire industry.