The cryptocurrency market is extremely susceptible to common pump-and-dump scams. Since many rules are unclear and hard for regulators to enforce, thinly traded cryptocurrencies are prime number targets for scammers and other nefarious actors.
Understanding how a pump-and-dump scam works, why the cryptocurrency market is specially susceptible, and how to identify a pump-and-dump volition aid you avoid getting taken by these schemes.
Some other potential indicator of a pump-and-dump crypto scam is if trading volume has spiked abruptly.
What is a pump-and-dump scam?
Pump-and-dump scams take been around ever since the conception of a marketplace for securities. The idea is that a person or group of people buy into a thinly traded nugget such equally a penny stock when its price is low.
They then start disseminating positive news about the asset. More oftentimes than non, that positive news is completely contrived.
As more than investors pile into the asset, the price continues to climb. Once the toll is fully "pumped," the originator of the scam sells their stake to the buyers however coming in. Since they own a substantial pct of the outstanding shares, information technology sends the price crashing.
Pump-and-dump schemes are a form of fraud. The originators of the scheme programme to take money from innocent investors by encouraging them to buy an asset based on false information. When those investors buy in, the pumper is selling, which finer pushes the price lower. The result is big gains for the scammer and losses for all those defrauded.
In that location are a number of laws that make this illegal in the securities market. The Securities Act of 1933 specifically states that information technology's criminal "to obtain coin or belongings by means of any untrue argument of a material fact or any omission to country a material fact." You can find similar language in the Securities Substitution Deed of 1934. A pump-and-dump may also be considered wire fraud because the fraudsters typically apply communication methods such every bit email, directly messaging, social media platforms, or straight phone calls to pump the stock.
One manner to avert a pump-and-dump scheme in the stock market is to focus on stocks traded on a well-known exchange such as the New York Stock Exchange or the Nasdaq. Those exchanges take strict listing requirements that won't allow stocks nearly susceptible to pump-and-dump scams. In the cryptocurrency market place, sticking with well-known and broadly adopted cryptocurrencies such as
Bitcoin
(CRYPTO:BTC) and
Ethereum
(CRYPTO:ETH) and well-known exchanges similar
Coinbase
(NASDAQ:Money) and Binance should keep you lot out of trouble when it comes to pump-and-dump scams. (Simply there is no such thing as total safety in this realm -- yous should exist cautious with crypto investing regardless of how renowned your crypto or exchange is.)
Stocks traded over the counter are more likely targets for fraudsters. In the moving-picture show "The Wolf of Wall Street," which is based on the activities of the Stratton Oakmont brokerage business firm, the brokers focused on stocks traded with pink sheets. Pink sheets have no reporting or registration requirements, making them susceptible to schemes similar a pump-and-dump.
Agreement crypto pump-and dumps
The crypto industry remains the Wild West. At that place are dozens of exchanges, and it's relatively easy to issue a new cryptocurrency. Therefore, it's a breeding ground for thinly traded currencies and scammers who can pump and dump those assets.
Typically, a pump-and-dump crypto scheme starts with an organizer gathering influencers in a private group online. They'll coordinate ownership the target crypto asset to avoid price spikes. Once they're prepare to pump the asset and get the full general public to buy in, the influencers volition share information almost the trade with their followers on social media. The organizers will then coordinate the auction, e.grand., the dump, in order to get everyone paid, leaving the public investors holding the handbag.
What makes crypto especially susceptible to this ploy is that organizers don't have to search very difficult for thinly traded crypto assets. They can merely create them. The bulwark to entry for creating a new cryptocurrency is just a footling bit of inquiry and coding cognition.
Furthermore, newly formed cryptocurrencies are largely unregulated. A person or group can create a token and make wild claims about its use, and it's unlikely they'll confront repercussions when those claims turn out to be cypher but false promises.
For example, several members of FaZe Association, an esports and influencer group, promoted a new cryptocurrency chosen SaveTheKids in the summertime of 2021. The coin promised to help children around the world, simply it turned out to exist no more than a scam. The organizers and influencers made off with tens of thousands of dollars, and their followers ended upwards with a worthless crypto token. Needless to say, no kids were helped.
How to spot a pump-and-dump crypto scam
It'southward easy to identify a pump-and-dump crypto scam after the fact. Merely that doesn't do cryptocurrency investors much skilful when the rug'southward been pulled and they're left holding the bag. It pays for investors to know the signs of a potential pump-and-dump scam before it actually happens.
The showtime stride in avoiding a pump-and-dump scam is to practice your enquiry. If you lot see a relatively unknown cryptocurrency beingness touted past net strangers, don't blitz to get in. Look up the token, notice its white paper, and read through it. Make up one's mind who'south backside information technology and what the objectives are. You should practise this for any cryptocurrency to decide if there'south long-term potential for it to increase in value.
If the token has been effectually for a while just development on the projection seems to accept disappeared, it's best to avoid it. If the project has no clear purpose, it purports benefits that seem unrealistic, its evolution roadmap isn't well thought out, or it's associated with previous bad actors, those are all crimson flags, too.
If you don't typically follow influencers in the finance infinite, specifically cryptocurrency experts, merely suddenly the people you follow are talking well-nigh a cryptocurrency, that's some other big red flag. Ask yourself why this manner influencer you follow is talking about some cryptocurrency.
If you do discover a potential crypto investment on social media, information technology's all-time to check out whether the project has its own website and social media presence. Go straight to the source instead of relying on information from third parties.
If you don't find any red flags in the documentation or in how the investment is being promoted, accept a look at how the cryptocurrency trades. If it'south on a well-regarded commutation, it's more likely to be a safer investment. If you take to dig into some unknown DeFi exchange, you'll desire to dig deeper into the order book.
Most exchanges volition evidence y'all all the open orders for an asset, equally well as the order history. Check the pattern on trading volume. If it'south spiked recently and volume appears to be trending college, be cautious. If you come across big walls of the crypto asset on the buy side, there'south potential that a big group is making sure the price of the coin doesn't fall below that cost. Likewise, you may see big walls of sellers to brand certain the price doesn't pump too fast as the organizers pile into the money.
If you suspect a cryptocurrency is undergoing a pump-and-dump scam, it'southward all-time to avert it. Information technology's impossible to know without inside data when the organizers plan to sell. If you exercise have inside data, though, you lot're probably ameliorate off contacting the Commodity Futures Trading Commission (CFTC) and providing the information to them.
The CFTC put out an advisory in tardily 2019 to warn investors nearly potential pump-and-dump scams. Information technology's offering bounties to any whistleblowers. That ways y'all don't take to exercise annihilation illegal, and y'all might make more money by being an informant.
Over again, recollect that at that place is no such thing as total prophylactic from scams in crypto investing. Exist extremely careful how yous engage with crypto, regardless of how well-regarded your crypto or exchange is.
Adam Levy has positions in Bitcoin and Ethereum. The Motley Fool has positions in and recommends Bitcoin, Coinbase Global, Inc., and Ethereum. The Motley Fool has a disclosure policy.
