While cryptocurrency trading continues to grow in popularity and adoption, it is crucial for investors to be aware that scammers may try to take advantage of this.
These cyber thieves are using a technique known as a rug pull to steal money from gullible investors.
A rug pull is a form of cryptocurrency fraud in which a group of people inflates their project’s token before fleeing with the funds, leaving their investors with a worthless asset.
Rug pulls occur when fraudsters build a new crypto token, inflate its price, and then extract as much worth as possible before leaving it when its price crashes to zero. Rug pulls are a decentralized finance (DeFi) attack and a sort of exit scam.
According to Chainalysis, a blockchain analysis firm, rug pulls only amounted to 1% of cryptocurrency fraud earnings in 2020. However, in 2021, this figure grew by 37%, resulting in $2.8 billion in lost revenue for victims.
How rug pull scam works
Rug pulls are most commonly seen in the decentralized finance (DeFi) arena, where monies are taken from a liquidity pool.
A liquidity pool acts as a market pointer for DEXs, allowing users to place buy and sell orders for specific tokens.
Crypto exchanges require a mechanism to keep order flow moving because there is no centralized infrastructure for arranging trades. And since there is nobody to audit the token, it is also simple to offer it on a decentralized exchange.
When the designers of a rug pull have gathered a large number of liquidity sources with significant capital, they withdraw all of the available assets. The coins are then swapped in a different marketplace, making the victims’ identities undetectable.
It’s quite simple to transfer Ether across wallets and become invisible to other users because it’s frequently used as an exchange currency. This clears out all crypto assets, leaving the pool blank and the liquidity providers disappointed.
Types of rug pull scam
Liquidity stealing, limiting sell orders, and dumping are the three major types of rug pulls in crypto, and understanding them can help you spot a rug pull scam as a crypto investor.
Liquidity Stealing
When token producers withdraw all of the coins from the liquidity pool, this is known as liquidity stealing.
This effectively destroys all of the worth that investors have invested in the currency, effectively pushing its price to zero.
Liquidity pulls are most common in DeFi setups. The most typical exit fraud is a DeFi rug pull.
Limiting sell orders
A dishonest developer can use this tactic to scam investors. In this case, the tokens are coded in such a way that the developer is the only one who can sell them.
The developers then sit tight for retail investors to use matched currencies to purchase their new cryptocurrency.
Paired currencies are two currencies that have been matched together for trade purposes. They abandon their positions once there is enough favorable price action, leaving a useless token in place.
Dumping
When a developer immediately sells off their own huge supply of tokens, this is known as dumping. As a result, the coin’s valuation plummets, leaving remaining investors with valueless tokens.
Dumping frequently happens after a lot of advertisements on social media. Pump-and-Dump schemes are named after the following price increase and sell-off.
How investors can identify rug pull scam
Always consider the liquidity as an investor. Studying a cryptocurrency’s 24-hour trading volume might help you determine its liquidity.
Rug pull scams are popular when a new crypto project has little liquidity, which means it’s difficult to transfer the coin or asset into money.
It’s a good sign to retrace if there’s limited volume, low liquidity, and a small community of over-enthusiastic investors.
The trustworthiness of the persons behind new crypto initiatives should be taken into account by investors. Investors should ask what is the long history of the developers and marketers in the crypto community?
New and readily fabricated social media accounts and profiles should also be avoided by investors. It’s possible that anonymous project developers are a red indicator.
Furthermore, a crypto fraudster can program a token to limit the ability of some investors to sell but not others. These limits on selling are telltale symptoms of a sham project.
It can be hard to detect whether there is scam behavior because selling limits are hidden in code.
One approach to check this is to purchase just a little amount of the new coin and then try to sell it right away. If it’s difficult to get rid of what you’ve just bought, the endeavor is probably a rip-off.
Before investing in a new project, it’s recommended to spend some time researching new cryptos and performing due diligence.
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