I'm confused. How do you make this work?

[hyakki]

you are using an old build get a newer version here, there has been some improvements to vertex cache that will fix the missing / spiked textures.
http://buildbot.orphis.net/jpcsp/

you can try to Uncheck "Enable decoding of indexed textures (using CLUT) in shader" that will give it a smoother look like in my screenshot, (I just suggested enabling it since it gives a huge speed up)