Title: Local Tops: what makes the market go up and down

Author: mikeykremer, Head of Technical at MessariCrypto

Translated by: zhouzhou, BlockBeats

The following is the original content (edited for easier reading):

Alpha release: BanklessVC's disgusting behavior clearly shows that we have entered the "extractive PvP phase" of the market, so protect yourself and your earnings. I suspect this cycle has already peaked, and this is just a natural adjustment, reflecting the crypto market's search for pain points to extract, but this pain point may last for some time.

Tokens like Virtuals, ai16z, and heyanon may set new highs during the recovery period, but they also face narrative risks, so constantly re-evaluate your market views.

Why does the market go up?

The market goes up because new capital enters the market, which is obvious. From now on, I will use the concept of the "wealth effect" to describe the process of new capital entering the market. We all hope that cryptocurrencies can create real value in the world and share this growth through monetary expansion. Here are a few ways to achieve this goal:

1. Creating wealth through innovation (airdrops)

Airdrops have become a powerful value redistribution mechanism in the crypto market, bringing significant wealth effects and benefiting a wide range of participants. For example, the Uniswap airdrop in September 2020 set an industry standard, distributing 400 UNI tokens (worth about $1,400 at the time of issuance) to over 250,000 addresses, with a total value ultimately exceeding $900 million.

The Jito airdrop in December 2023 was an early catalyst for the Solana meme coin bull market.

The Jito airdrop distributed 90 million JTO tokens, worth $165 million at issuance, with some users receiving rewards of up to $10,000 just by transferring $40 worth of JitoSOL. The Jito airdrop drove growth in Solana's total locked value and increased on-chain activity. This wealth effect promoted broader adoption and development of the Solana ecosystem, just as Uniswap's UNI token catalyzed the growth of DeFi.

Jupiter's token distribution further demonstrates the inclusive potential of airdrops. They plan to distribute 700 million JUP tokens, covering over 2.3 million eligible wallets, making it one of the most widely distributed airdrops in crypto history. Jupiter's airdrop strategy aims to expand its ecosystem through incentives for long-term participation and governance participation. These airdrops have shown remarkable efficiency in expanding market participation.

The wealth effect is not limited to direct economic gains; these airdrops transform users into stakeholders, enabling them to participate in governance and protocol development. This transformation creates a virtuous cycle, as the benefiting participants reinvest their wealth back into the ecosystem, further driving market expansion and innovation.

These strategic allocations have proven to be powerful market catalysts, triggering broader bull cycles in their respective domains. For example, Uniswap's airdrop ignited the DeFi summer of 2020, with its distribution driving a wave of innovation in decentralized finance. Similarly, the Jito airdrop in December 2023 became a turning point for the Solana ecosystem, driving TVL growth and unprecedented on-chain activity.

This surge in liquidity and market confidence laid the foundation for the subsequent meme coin explosion, resulting in significant market growth. These airdrops effectively served as ecosystem-wide stimulus programs, creating a self-reinforcing cycle of investment and innovation, defining the era of their respective markets.

Wealth accumulation (marginal buyers)

When the market experiences positive catalysts such as strategic airdrops, it attracts previously on-the-sideline participants with new capital and enthusiasm, and the influx of these marginal buyers forms a virtuous cycle of market expansion and innovation.

Airdrops have sparked primarily positive FOMO, driving deeper participation from both new and existing users.

Investors who were previously on the sidelines start to allocate capital after witnessing successful airdrops and the subsequent market momentum, transitioning from passive observers to active participants. This shift from cash to crypto assets represents the inflow of genuine new capital into the ecosystem, rather than just a transfer between existing participants.

Large financial institutions are increasingly facilitating this transition. Companies like BlackRock, Fidelity, and Franklin Templeton have launched products that connect traditional finance with digital assets. The involvement of these institutions helps legitimize the market and provides more convenient entry points for the sidelined capital. This expansion creates a positive-sum environment, where new participants contribute to the overall market growth.

Unlike a zero-sum trading environment, an active market with new participants creates real wealth effects through increased liquidity, enhanced development activity, and broader adoption. This positive feedback loop attracts more sidelined capital, further driving the growth of the ecosystem.

3. Wealth creation through leverage (multiplier expansion)

In the late stages of a bull market, leverage becomes the primary driver of price appreciation, marking the transition from value creation to value multiplication. As the market enters a price discovery phase, traders increasingly use leverage to amplify their positions, creating a self-reinforcing upward momentum cycle.

As Bit enters price discovery territory above historical highs, leverage ratios expand significantly as traders seek to maximize their exposure. This triggers a chain reaction, with borrowed stablecoins driving further buying, pushing prices higher and encouraging more leveraged positions. This multiplier effect accelerates price volatility.

The increasing prevalence of leverage also introduces systemic fragility to the market, as more traders adopt leveraged positions, the likelihood of cascading liquidations increases, especially as the cost of borrowing stablecoins becomes more expensive and scarce.

The rise in stablecoin borrowing costs is a key indicator of the market entering its final stage, marking the transition from organic growth to leverage-driven expansion, where the market is no longer creating new value but merely multiplying existing value through debt.

At this stage, the high dependence on leverage puts the market in a precarious position, where sudden price movements can trigger large-scale liquidations, leading to rapid price corrections. This fragility signals the approaching end of the bull market, as the market becomes increasingly reliant on borrowed capital rather than fundamental value creation.

What makes the market go down?

The market goes down when capital flows out, which is self-evident. This is essentially the reversal of the wealth effect, with savvy operators exploiting market sentiment, with smart money exiting to lock in profits, while dumb money suffers from liquidations.

Wealth is being extracted from the market, and you are experiencing this phase

The crypto ecosystem often goes through cycles of value extraction, where savvy operators design various strategies to siphon capital from enthusiastic market participants. Unlike the distribution of value through innovation, these strategies systematically drain liquidity from the market through various predatory mechanisms.

The most nauseating aspect of the Bankless story is that they extracted thousands of SOL from the ecosystem using just 2 SOL.

The recent launch of the Aiccelerate DAO further illustrates the evolution of this phenomenon. Despite the support of Bankless founders and industry veterans as advisors, the project was criticized upon launch, as the insiders who received the tokens began selling without any lock-up period. Even well-known projects can become tools for rapid value extraction.

Celebrity tokens are also a typical example of this predatory behavior, where these projects, through malicious smart contracts and organized dumping, transfer wealth from retail buyers to insiders, ending the meme coin bull market cycle. These value extraction events severely undermine market confidence and hinder the entry of compliant participants.

These actions not only fail to establish a sustainable ecosystem, but also create a cycle of distrust, impeding the mature development of the entire cryptocurrency ecosystem.

Instead of reinvesting profits into the development of the ecosystem, these plans systematically withdraw liquidity from the market. The extracted funds often completely flow out of the crypto ecosystem, reducing the total available capital for legitimate projects and innovation.

From obvious scams to complex operations supported by reputable institutions, this trend is concerning. When renowned institutions participate in rapid value extraction, it becomes increasingly difficult for market participants to distinguish legitimate projects from complex scams.

2. Only Sellers

Were you surprised that BAYC peaked 3 months later?

As the market begins to decline, a clear asymmetry emerges between experienced players and retail participants. The former can quickly detect the market shift, while the latter remain immersed in an optimistic narrative. This phase is characterized not by the influx of new capital, but by the orderly withdrawal of liquidity by experienced traders.

Professional traders and investment firms are reducing their exposures while maintaining an outward optimistic attitude. Venture capital firms are quietly cashing out through over-the-counter trades and strategic exits, preserving their capital without impacting the market. This creates an illusion of market stability, even as a significant amount of capital has quietly withdrawn from the system.

The "smart money" is also starting to withdraw liquidity from DeFi protocols and trading platforms. This subtle but persistent capital withdrawal makes market conditions increasingly fragile, although this impact may not be immediately apparent to the average observer.

It appears that some smart money is exiting the market, the psychology of denial: while experienced players secure their profits, retail investors often still believe the downturn is a temporary buying opportunity.

This cognitive dissonance is reinforced through:

Social media echo chambers maintaining an optimistic narrative

Dependence on unrealized gains from the bull market

Misinterpreting the "diamond hands" mentality

Most retail investors miss the optimal exit timing, often holding on even during the initial decline, trying to justify their decisions. As the downward trend becomes evident, much value has already been lost, and with the spread of panic sentiment, selling pressure intensifies.

The continuous withdrawal of professional capital leads to a deterioration of market conditions, with each subsequent sell order having an increasingly pronounced impact on prices. This deterioration of market depth is often not perceived before the exposure of systemic fragility through significant price volatility.

Unlike the positive feedback loop of new capital entering during the bull market, this phase represents pure value destruction, with capital systematically exiting the crypto ecosystem, leaving the remaining participants to bear the increasingly severe losses.

Leverage Implosion (Liquidation Cascade)

The final stage of market capitulation reveals the devastating impact of excessive leverage, as Warren Buffett famously said: "You only find out who is swimming naked when the tide goes out." The most violent crypto market crashes clearly illustrate this principle.

This collapse began in June 2022 with the bankruptcy of 3AC's $10 billion hedge fund. Their leveraged positions, including $200 million in LUNA and significant exposure to the Grayscale Bitcoin Trust, triggered a cascade of forced liquidations. The fund's failure exposed a complex interconnected lending network, with over 20 institutions affected by their default.

The collapse of FTX further demonstrated the dangers of hidden leverage. Alameda Research borrowed $10 billion in FTX customer funds, creating an unsustainable leveraged structure that ultimately led to the downfall of both institutions. The revelation that 40% of Alameda's $14.6 billion in assets were locked in the illiquid FTT token further exposed the fragility of their leveraged positions.

This collapse triggered widespread contagion effects across the market. 3AC's downfall led to the bankruptcy of multiple crypto lending platforms, including BlockFi, Voyager, and Celsius. Similarly, the FTX collapse triggered a domino effect within the industry, with many platforms freezing withdrawals and ultimately filing for bankruptcy.

The cascade of liquidations revealed the true nature of market depth. As leveraged positions were forcibly unwound, asset prices plummeted, triggering further liquidations and creating a vicious cycle. This exposed the market's apparent stability as being more dependent on leverage than genuine liquidity.

The receding tide has revealed many self-proclaimed savvy institutions to be swimming naked, lacking proper risk management and overleveraged. The interconnectedness of these positions means that a single failure can trigger a systemic crisis, exposing the fragility of the entire crypto ecosystem.

Looking Ahead - Narrative Risk

The title of this article is somewhat provocative. My instinct tells me that this market adjustment is healthy, though a bit painful, and the market will rebound. My price targets, especially for Bitcoin, remain high - but I've already taken my chips off the table, locking in the Bitcoin gains I'm willing to carry into the next cycle. If this is truly the end of the cycle, remember: no one goes broke taking profits.

I've written before (Article 1, Article 2, and Article 3) about the importance of following market narratives and avoiding getting stuck in old coins. The longer the market downturn lasts, the more the narratives will shift. If the market fully recovers tomorrow morning, I expect that NFTs, ai16z, and DeFi will continue to lead. But if the market recovery takes longer, you should focus on emerging coins, trying to capture the attention of new capital.

What I want to tell you is, don't be biased towards the coins you hold, and don't stubbornly hold them through these doldrums (unless you have a firm conviction). Even if they reach new highs, I'd bet you'll miss out on a lot of potential gains by not switching to new coins in a timely manner.

The only reason anyone posts Fibonacci charts is to convince themselves (and others) that they can sell at higher prices.

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