You have probably heard of pump-and-dump schemes before. They occur when investors take advantage of an asset that sees a steep price increase (pump) followed by an even faster price drop (dump). These schemes can take place with various assets, including cryptocurrencies.
A pump and dump scheme refers to a kind of fraud involving artificial, deliberate inflation of the price of an asset through false, exaggerated, or misleading information about the asset’s value. The fraudsters of a pump-and-dump scheme typically have an established position in the cryptocurrency/stock and sell their positions after the hype leads to a higher price. They oversell the purport benefits to entice novice buyers.
At the same time, the new buyer or investor will likely lose a significant part of their capital as the asset’s price will quickly drop. The pump and dump schemes are considered as illegal activities.
Pump and dump schemes are common among small-cap digital assets and small companies/corporations. While bad actors in the past used cold calls, the internet now offers cheaper and easier ways of contacting more investors using social media, spam email, investment research websites, etc.
How Does a Pump and Dump Scheme Work?
Traditionally, pump-and-dump schemes were conducted using cold calling. The advent of the internet has made this illegal practice even more prevalent. Fraudsters typically post false information on digital platforms enticing investors to buy a cryptocurrency quickly. They also claim to have inside information that some upgrade or development will cause an upswing in the coin's or stock's price. Once buyers do that, the perps sell their coins/shares, causing the asset price to drop dramatically. New investors then end up losing their money.
Douglas Horn, the chief architect of Telos Core Developers, explains that as the prices of an asset surge, the pump actors dump their tokens into the FOMO they have created. This typically results in a price crash that leaves the new investors holding a bag of crypto coins that now possess a lower value than they were bought, creating notable and often unrecoverable losses.
Certain cryptocurrencies are commonly found in such scams. Bitcoin, Ether, and Dogecoin, for instance, are well-established digital assets. So it takes someone with the follower base of Elon Musk to decrease or increase their value. However, since building an entire blockchain for a cryptocurrency takes a lot of effort and time, those who code can build their own crypto tokens using an existing blockchain like Ethereum or Solana.
These tokens can be created very easily. Developers can also create billions of these coins, which means they are valued at fractions of a penny. One Shiba Inu (SHIB) token, for example, costs $0.00001774 at the time of writing, so you can purchase over 54,000 coins for less than $1.
Since someone can create billions of tokens that cost hardly anything, all that is required is to convince enough investors to buy these super affordable coins. This is done through Discord channels, social media forums, or by getting online influencers to promote the token in exchange for free coins.
If the fraudsters have one billion coins worth $0.000001, it is still only worth $1,000. But if they manage to increase the value of a token even by one decimal point, their coin holdings are now worth over $10,000. If they sell (dump) the stash quickly, it will cause its value to drop drastically.
Scammers can manipulate information available about shares and cryptocurrencies easily. The lack of public information forms additional advantageous conditions for bad actors as potential new investors lack enough resources to verify all available details about a company.
Types of Pump and Dump Schemes
Online scammers use various types of pump and dump schemes to cash-in big gains. Some of them include:
1. The classic cryptocurrency pump and dump scheme
The classic procedure involves scammers manipulating information regarding a cryptocurrency. This may involve faking the following of a coin, fake news releases, and the circulation of certain “insider” details that can promote a coin and create an urge of missing out.
2. Boiler room
A boiler room refers to a small brokerage company that uses various brokers employing deceitful sales practices to sell dubious investments to buyers. The brokers typically sell affordable shares that the firm purchases or sells as a market maker by cold calling. The brokers working in boiler rooms try to trade as many shares as possible, thus boosting the price. Once the price surges, the company sells them for a profit.
How Do You Know if It's a Cryptocurrency Pump and Dump Scheme
One of the easiest ways to spot a pump and dump scheme is when an unknown cryptocurrency suddenly grows substantially without a real reason. You can view this info on the coin's price chart.
Also, paid news articles hyping a small-cap coin in combination with a surge in social media activity covering that particular cryptocurrency could be an indication of a pump and dump scheme taking place. If an unheard coin with a low market cap abruptly appears all over Facebook or Twitter, one must be wary.
Examples of Pump and Dump
A popular e-sports group known as the ‘FaZe Clan’ earlier terminated one of its associates and suspended three other members amid reports of operating a crypto pump and dump scam.
In July 2021, the four FaZe Clan members took part in a pump-and-dump for a coin named SaveTheChildren. The scammers, along with some influencers, promoted the asset to their follower base. Once the coin price rose, they started selling the coins they were allotted to take part in the scam, with some of them earning an estimated $25,000.
An earlier study conducted by the University of Technology Sydney and the Stockholm School of Economics uncovered 355 cryptocurrency pump-and-dump scams that took place over seven months. The people involved in these schemes reportedly made millions.
Such pump and dump scams mostly take place when there is not enough information for investors and crypto buyers. For instance, the Squid game crypto token skyrocketed in value. The coin’s founders inflated the coin and later vanished with $3 million in profits made from investors.
A similar crypto pump and dump instance happened with Floyd Mayweather Jr and Kim Kardashian too. The pair reportedly pumped the price of EthereumMax. Soon after the prices reached an all time high, company executives grabbed the profits and left the coin holders with worthless assets. Later, investors went on to file a class-action lawsuit accusing Mayweather and Kardashian of being a part of the scheme.
How to Avoid Pump-and-Dump Schemes
It is crucial to understand if fear of missing out (FOMO) is the reason you are investing in a certain cryptocurrency. It may appear like everyone around you is getting rich through Bitcoin, Ether, or Doge, but that is likely not the case.
Crypto buyers must do their homework. People with coding knowledge can easily create cryptocurrencies. If there is a new token in the market that will allegedly make you rich, perform some thorough research to learn more. The initial coin offering (ICO) will have a company white paper, which offers details about the company, the token, the founding team, their objectives, etc. It's a good habit to know this information before investing in any cryptocurrency.
Pump and dump schemes involve the creation of a buzz around the coin. They spread this buzz through social channels where potentially interested people would be, such as Discord, Telegram, Twitter, etc. If someone begins to hype up a new coin out of nowhere, it is likely they are pushing a scam.
Lastly, if you are sure about investing, consider not financing more money than you are willing to lose. Of course, under the right circumstances, an investor could make profits off a pump-and-dump scheme, but it is safer to assume that your funds will likely "get rekt."
Pump and dumps generally happen with coins with low market caps and trading volumes. By steering clear of illiquid cryptos, your chances of losing money in a pump and dump reduce significantly. Investors are also generally asked to not take up investment advice from social media forums or paid news articles to prevent market manipulation.
Sudden price hikes in random coins signal a potential cryptocurrency pump and dump scheme. As a rule of thumb, remember that any person or group promising they know the next token to pump likely has an ulterior motive. Therefore, avoiding such investments is a good practice.
Novice investors can count on reliable trading platforms like Margex to access safe, cutting-edge crypto trading services. You can start by learning how to make a deposit, buy a cryptocurrency, and learn crypto trading on Margex in just a few simple steps.
Are Pump and Dumps Legit?
Pump and dump schemes have been around for years and their creators have mastered the craft in making them appear very real and legit. Investors must be careful about such schemes and fraudsters trying to profit from new, naive investors.
When Should I Sell Pump and Dump?
Experts believe that participating in cryptocurrency pump and dump schemes is very risky. The risk of quick and big wins certainly seems to outweigh their benefits.
One cannot run away from the risk factor while investing in altcoins, especially the new ones. The crypto community has witnessed crypto tokens lose more than 99.9% of their value from their peaks and seldom recover.
Many crypto assets have small market caps, making them easy to be manipulated at any time. However, this changes rapidly as the crypto market grows and more regulations are enforced across countries.
There is no right time to buy or sell a token in a pump and dump crypto scheme because investors could stand to lose all their capital if they miss a small window. Hence, investors are advised to turn away from such scams altogether.
How do you predict pump and dump crypto?
When a new crypto project launches, pay attention to the ICO. New investors tend to lose sight of the obvious when they get intoxicated by the promise of a new, budding project and rising prices.
It is easy to fall for scams in an unregulated market, such as crypto. Here are some tips to predict a pump and dump and stay away from them.
-If you spot new, unknown crypto promoted by internet strangers, do not rush to jump on the bandwagon. Do your own research (aka DYOR), check the whitepaper, and get familiar with the project. Investors must do this for any digital asset to decide if the token has any long-term potential.
-If a crypto project does not have a clear purpose, seems unrealistic, appears too good to be true, or has an unclear development roadmap, trust your instinct. These are all investment red flags.
The Bottom Line
The tremendous success of cryptocurrencies like Bitcoin and Ether has caused scammers to attract potential investors and take advantage of the lack of regulation (and information). Fortunately, it is not very difficult to avoid falling victim to pump and pump scams. Before investing in any new or “trending” cryptocurrency, remember to perform due diligence.
If you’re interested to know more about crypto trading or want to get started with it, check out this ‘Quick Start Guide’ or simply watch a live demo on Margex!
FAQ
Is it legal to pump-and-dump cryptocurrencies?
Pump and dump scams are usually illegal in stock markets like Wall Street. However, when it comes to the crypto space, while pump-and-dump schemes are frowned upon, they are not exactly illegal due to the lack of regulation.
How do you catch crypto pump-and-dumps?
One of the most significant indicators of a pump-and-dump scam is the extreme hype built around a crypto coin. When a coin is promoted as the "next Bitcoin" or the "next cryptocurrency that can make you a millionaire,” it could signal a pump-and-dump.
When you identify an extraordinary or unusual amount of optimism around a relatively unknown cryptocurrency for no particular reason or because of reasons that do not make much sense, consider it a red flag and investigate further before investing.
How do you spot a crypto pump?
Investors or potential crypto buyers can spot a pump-and-dump scheme by the parabolic rise of the coin's price over a short period. This especially holds true if the asset was previously unheard of.
When scammers create positive, fake news about a coin and make insider purchases, they end up creating an illusion of something big happening, triggering a sense of FOMO in people. So be on the lookout for such marketing hyperbole.
How do you predict pump and dump crypto?
When a new crypto project launches, pay attention to the ICO. New investors tend to lose sight of the obvious when they get intoxicated by the promise of a new, budding project and rising prices.
It is easy to fall for scams in an unregulated market, such as crypto. Here are some tips to predict a pump and dump and stay away from them.
-If you spot new, unknown crypto promoted by internet strangers, do not rush to jump on the bandwagon. Do your own research (aka DYOR), check the whitepaper, and get familiar with the project. Investors must do this for any digital asset to decide if the token has any long-term potential.
-If a crypto project does not have a clear purpose, seems unrealistic, appears too good to be true, or has an unclear development roadmap, trust your instinct. These are all investment red flags.
The tremendous success of cryptocurrencies like Bitcoin and Ether has caused scammers to attract potential investors and take advantage of the lack of regulation (and information). Fortunately, it is not very difficult to avoid falling victim to pump and pump scams. Before investing in any new or “trending” cryptocurrency, remember to perform due diligence.
If you’re interested to know more about crypto trading or want to get started with it, check out this ‘Quick Start Guide’ or simply watch a live demo on Margex!
