What are Crypto Pump and Dump Schemes?

Crypto pump-and-dump schemes are an unfortunate but fairly frequent phenomenon in the digital asset markets.

With cryptocurrency investors losing as much as $4.6 billion in 2022 to pump-and-dump schemes, knowing how they work and how to spot them is crucial. Read on to learn more about crypto pump and dump schemes and how to avoid them.

What is a pump-and-dump in Crypto?

A pump-and-dump in crypto is a scheme where a party or multiple parties pump up a crypto asset to drive up its price, then exit their positions, leaving other investors with worthless holdings in their portfolio.

Project creators manage most of the pump and dump schemes. They understand that their token has minimal or no utility and is unlikely to increase in value if left to gain momentum organically. The nefarious developers then deploy aggressive marketing campaigns to drive up the cryptocurrency’s price. Once the crypto-asset reaches a high enough price, they sell their holdings and disappear.

Due to the pseudonymity of the cryptocurrency industry, it is very challenging to identify the people behind a pump and dump scheme. Consequently, the the same parties can continue to operate schemes use variations of the same tactic.

How do Crypto Pump-and-Dumps work?

Crypto pump-and-dump schemes involve three key steps: listing on an exchange, hyping the project, and exiting the position. Let’s take a closer look at each one.

Listing on a stock exchange: Developers list their projects on a cryptocurrency exchange, making them eligible for trading in the secondary market. Since any token can be listed on decentralized exchanges, it has become the go-to option for pump-and-dump tokens.

Hyping the project: This is the “pump” part of the scheme. The developers are using channels like Discord, Telegram, YouTube and Twitter to promote the project using crypto influencers, paid advertising and other social media marketing tools. The messages at this stage typically focus on potential extraordinary returns to appeal to potential investors’ greed and distract them from taking a closer look.

Leave the position: This is the “dump” part of the scheme. Once the project has enough interest, its value skyrockets. At this point, the developers are assessing whether they can get more out of the scam. If they decide that this is the optimal value, they dump their holdings, causing a market reaction of the price to collapse. The developers can also leave if they see signs that the scam is being detected.

Due to the lack of a regulatory framework governing the cryptocurrency industry and the pseudonymity of crypto, seeking legal redress can be difficult.

How to spot a potential pump and dump scheme

Understanding the critical signs of a potential pump and dump scheme helps you spot it. Here are three signs to look out for.

1. Seemingly scripted/Robotic conversations

Faking an active community is part of the ploy that generates interest in a pump-and-dump scheme. Scam projects are likely to hire people to post in the community and instruct them on what to say. Moderators will be keen to steer conversations away from any topics that challenge the project’s fundamentals. Be sure to carefully monitor social media conversations regarding the project and assess whether it sounds natural.

2. Uneven token distribution

Fraudulent developers will be keen to keep a significant portion of the tokens for themselves to maximize their returns. Even distribution democratizes the market and limits the chances of any whales influencing the price. In projects where the developers are the biggest holders, this should be a sign that they can crash the price and let you keep worthless tokens.

3. No time lock

When the smart contracts are set up for the project, the creators can slip into a loophole that allows them to exit their position while other investors cannot. A time lock demonstrates the project developers’ commitment to hold their position for the specified period. This assures investors that the developers do not intend to rip them off.

Pump-and-dump schemes are unfortunately common in the cryptomarkets, especially in small-cap cryptoassets launched by anonymous or pseudonymous developers. So be sure to do your own research and look out for signs of a potential pump-and-dump before deploying any capital into a crypto-asset.