#SLF 【Principles of a $100,000 Operation】Recently, there have been many small-cap contract pumps. Based on my years of experience in operation participation, I will decode and discuss with everyone how the project party, market makers, and large investors passively conduct market making in spot and contract limits, and why it is an unfair competition for retail investors.

This article discusses a common strategy for manipulating spot and contract cryptocurrency prices, which may involve the project party's own market capitalization management team, professional market makers, or large investors with significant capital. Therefore, the following text will collectively refer to them as "庄" using the term that everyone prefers.
Do you often encounter unreasonable situations like the following on exchanges?
Phenomenon 1: Low on-chain and Spot trading volume, but a lot of contract trading volume.
Phenomenon 2: Prices are rising, but trading volume is gradually decreasing?
Phenomenon 3: The long-short ratio of Spot and contract trading orders is completely opposite, resulting in a negative funding rate.
The price surge has led users to collectively become bearish, but without holding any coins, they can only open short positions in contracts. Therefore, a completely opposite market sentiment has emerged in the Spot and contract markets.
The completely opposite market sentiment has caused the funding rate to reach -2%, settled every hour!
For example, trading derivatives (contracts) is like buying and selling houses. I am a real estate developer, and my houses mainly serve the wealthy person A, who suddenly buys up all the units in my development. The pricing power only exists between me and A; we are the supply and demand parties that will affect the housing prices.
Although B is not the owner, he believes that the housing prices in this development will fall. Therefore, B proposes a bet of 1 million with A, believing that A's investment will definitely lose money. B is unlikely to succeed because the circulating price of the house is controlled by me and A. The transaction between me and A will truly affect the circulating price; we just need to agree on the transaction price, and B is bound to lose. The bet between B and A is similar to derivative trading and will not affect the circulating price of Spot.
Even if B thinks that the housing price is overvalued and is actually worth only 1 yuan per square meter, this cannot be realized, because his trading is not Spot trading, but derivative trading. Derivative trading bets on the Spot price, so those who control the Spot price (A and I) can largely determine the derivative trading.
In the above example, the real estate developer is the project party, "A" is the "pump" that controls the Spot circulation, and B is the contract user.
❗This is also why it is often said that naked short selling in the derivatives market is a very dangerous practice.
❤️Some essential contract basics you must know
Knowledge Point 1: What is the mark price and last transaction price of a contract?
A contract has two prices: the latest transaction price and the mark price. When users close their positions, the latest transaction price is generally used by default. However, for liquidation, the mark price is adopted. The mark price is calculated using an algorithm based on the latest transaction price of external Spot to objectively reflect price conditions.
Knowledge Point 2: What is the funding rate of a contract?
To prevent the latest contract transaction price from decoupling from the latest Spot transaction price, a funding fee will be paid every 8 hours, either from long position users to short position users or from short position users to long position users, thus narrowing the gap between the latest Spot transaction price and the latest contract transaction price.
Knowledge Point 3: What is the circulating market capitalization of a project?
The economic mechanism of a project specifically depends on the white paper. Generally, it will be divided into the project party, early investors, community airdrops, project treasury, etc. If a project's white paper is not transparent enough, it is more likely to be manipulated. For example, although the white paper gives the community enough freedom, it also provides market makers/institutional large investors with enough freedom—they can acquire low-priced chips at low levels at will, and once obtained at low levels, they cannot be diluted, as there is no additional issuance or linear unlocking mechanism.
4. Small Market Capitalization Contract Control Process
Step 1: Find a project with a relatively low market capitalization that has a contract opened on a CEX. Generally, small projects with a market capitalization between 1 - 10M USD will be chosen, with a contract leverage of typically 20 - 30 times.
Step 2: Raise funds, funds > external circulating market capitalization
Large investors with a scale of millions prefer to control small market capitalization contracts. Taking S*** as an example, with a circulating market capitalization of 5M. During the long decline, if the market maker acquires 60% of the circulating quantity at a low price, they would only need to hold 2M USDT and 3M coins without moving them to completely control the Spot and contract prices of this coin.
Step 3: Control the Spot Market Price
As long as 3M of the coins are not sold, the Spot order book will have at most 2M of Sell orders. Therefore, as a "庄" looking to manipulate the price well, it will be necessary to prepare 2M USDT as the funds to maintain the Spot price.
It is clear that even if all the S*** outside of the "market maker" were sold at the same time, the price would not fall.
Step 4: Control the contract mark price
As mentioned earlier, the mark price of the contract is the Spot price of various exchanges, which means that the mark price of the contract remains unchanged.
Step 5: Open a Long Position
After ensuring that the marked price is controlled, use your own funds to open any leverage position in the contract. It’s safer to open a lower one, and more aggressive to open a higher one - it doesn't matter, since the marked price has already been controlled, the "big player"'s long position will never be liquidated.
Step 6: Fund pump or use small accounts for trading
For cryptocurrencies with low depth and small market capitalization, a 10% pump in Spot trading requires very little capital. If the price can't be pushed up, then just create a small account to place a sell order at a high price after the 10% pump, and once the transaction is completed, it will naturally show as a 10% increase in the recent 24H price change of that coin.
After seeing this news, retail investors will flood in and start generating a large amount of short-selling demand.
Step 7: Use funding rates to earn steadily
At this time, there are very few sell orders in the Spot order book, while the short positions in the contracts are very numerous. This causes the Spot price to be higher than the contract price, resulting in a negative funding rate. The larger the difference, the more negative the funding rate becomes, which means that even if the mark price remains unchanged, the short positions have to pay a high negative rate to the long positions every 8 hours just for holding their positions.
Under this game mechanism, the market maker relies on the funding rate to continuously "make money from money". For a more extreme example, holding SRM with a negative funding rate for 24 hours can yield a return of 16%.
Coincidentally, recently exchanges have frequently modified the funding rates to help narrow the spread between the Spot market and the contract market.
However, they did not find the root cause of the abnormal funding rate. Expanding the rate range can still provide liquidity, and this issue may actually help the project party/market makers/institutional large investors to harvest retail investors using the funding rate.
5. How Do Market Makers Profit
First profit point: Spot buy low and sell high.
Keep in mind that the big players are not doing charity; the coins you buy are not real money and not BTC. In the end, it is certain that profits will be made through selling. The so-called pump is all for the subsequent dump.
Second profit point: contract funding rate.
Third profit point: directly lend the coins that are held and not sold to the leveraged lending market. For example, Gate can achieve an annualized return of 4.9% through Yu Bi Bao, which is.
After going through the process, everyone can also see that the premise is to control the circulation of the Spot currency. If there are a large number of coins being unlocked linearly, they cannot be manipulated in the long term. Each unlocking will change the circulation.
6. Where is the problem?
Question 1: Can the contract Open Interest exceed the Spot circulating market capitalization?
Contracts only require USDT to open a position, while Spot requires coins to sell. Acquiring coins creates selling pressure in the Spot market, and shorting in the contract market has different levels of difficulty.
Returning to the third step of the third part, the user controlling the market has already locked the coins in their hands. Even if some users believe that this coin is severely overvalued, they cannot create selling pressure in the Spot market. At this point, they will turn to contracts to short. In other words, shorting tends to occur in coins with low liquidity, which cannot be released in the Spot market and can only be shorted in the contract market.
Returning to point 1 of the marking price in the fourth section, the contract marking price is the latest Spot transaction price. The contract's marking price latest Spot transaction price has already been controlled by the project party/market makers/institutional Large Investors. Therefore, how the contract will liquidate is already apparent.
Therefore, when the contract Open Interest > circulating market capitalization, it means that due to the scarcity of the currency, the trading demand of market makers cannot be reflected in the market price. The excess contracts will exacerbate the convergence of spot price deviations.
Question 2: When the funding rate is abnormal, how can Large Investors promote fairness in the limit of funding rates between Spot and contracts?
The current exchange solution is to expand the funding rate, which superficially addresses the price discrepancy between the Spot and contract markets, but in reality, it has increased the ability of the project party/market makers/institutional Large Investors to harvest retail investors.
Therefore, while the existing funding rate mechanism has helped anchor the prices of the derivatives market to the Spot market prices, it has not made the trading market fairer; rather, it may encourage the trading market to become even less fair.
7. How retail investors can hedge risk
Note 1: Be wary of projects with low market capitalization that have opened high-leverage contracts. This gives Large Investors a significantly unequal competitive advantage over retail investors.
When users choose to buy Spot together and open long positions, it accumulates enough buyers for the project party/market makers/institutional Large Investors, allowing them to start offloading in batches and once again harvest retail investors.
Note 2: Projects with a high absolute value of funding rates
Note 3: The big players do not do charity; the cost of pumping in the end must be recouped through dumping.
Be cautious of becoming a bag holder; anticipate an early exit. When the thought "this coin is a value coin, I want to hold it long-term until the next bull market" arises, it won't be long before the large investor dumps it. His purpose for pumping is to cultivate this kind of user psychology for his own benefit.
In the small market capitalization contract market, playing against the dealer is like playing Texas Hold'em with a known hand; he is both the player and the dealer.