Pump and Dump’ (PAD for short here) in its simplest form is very easy to understand, but what I’d like to communicate are some slightly more devious ways this occurs in Cryptos, as well as ultimately point out a particular coin that I believe exhibits many of the tell-tale characteristics of a classic Pump and Dump.
In a nutshell, PAD can be described in three phases.
Phase 1: The perpetrator acquires (or simply has) units of the item in question. That item could be a stock (the most common throughout financial history) or in our case, a cryptocurrency.
Phase 2: The perpetrator markets the items, trying to generate buyer demand. Although there may be kernels of truth in the marketing campaign, there can be deception or even outright lies. The point is not to communicate a legitimate valuation, but to play on people’s greed (and use other methods) to push the price of the coin up.
Phase 3: With the price of the coin pushed up, and people’s greed presumably running high (who wants to miss the next big move higher?!?) they proceed to sell the coins they acquired at much cheaper prices (if not ‘mined for free’) to the new speculators who are hoping it will continue to go higher from there. Little do the speculators realize that the only reason it’s gone up as much as it has at that point, is due to the manipulation by the scam’s perpetrators.
Many people think that if they watch out for obvious attempts to ‘pump up’ a coin, then they won’t fall victim. They may think that they are too smart to fall for such a scam, as most people who ‘talk up a coin’ are very transparent (ie, saying a coin is “going to the moon!” might be an obvious example). But scammers would be very happy for you to think that’s all that is involved in the PAD scheme, so you remain unaware of other methods involved.
The best way to communicate the methods, particularly as they apply to cryptos is with an example, so I’ll offer an illustrative example of how someone might look to defraud people with cryptos.
Step 1: Create your own coin, and make sure you and your partners own a lot, if not most of it.
What Satoshi Nakomoto did with his white paper and creation of Bitcoin was absolutely revolutionary. The concept of the blockchain was (and is) in many ways genius. Not so genius though are copycats who simply follow in his footsteps to create a new cryptocoin that by-and-large isn’t very different from Bitcoin (or another already established open-source blockchain). While you clearly need to be pretty intelligent to do the coding, there are thousands of people who right now have the technical ability to create a ‘new coin’, put a new name on it, and give themselves much of the coin.
Step 2: Invest in a cool looking website and talk it up anywhere you can.
These days you can create really snazzy sites for very little money – especially if you have friends with technical capabilities willing to contribute time and energy (for an expected payoff of course). Proceed to talk about it on message boards, forums, etc. Ultimately, you really just want people to come to your site to be presented with the ‘sales pitch’.
Make sure that the site looks legitimate and ‘official’. Use technical jargon in a lot of places. Most people don’t understand how blockchain works, much less have the ability to see through gibberish doubletalk. But if things look official and have the appearance of legitimacy, that will be enough for many people to buy into it.
Step 3: Manipulate the Price/Paint the tape – The Actual Trading Side of It
This is probably the sneakiest component, and is best illustrated by example.
Suppose I have launched ‘SuperCoin’ (a scam coin), and there are a total of 1,000,000 coins in existence. Me and my buddies have engineered it so that between us we have all of them. Let’s call this group ‘the Consortium’. This give us, the Consortium, a lot of power to ‘set the price’.
If we can convince a trading website to list our coin for trading, then we’re in business! This may not even be that difficult to do, as the onus of proving a coin is legitimate doesn’t fall on a trading site at all. Never mind the fact that legitimate stock exchanges have had many listed frauds trade on them, crypto-trading is by and large unregulated, so has even fewer safeguards regarding ultimate coin legitimacy. So long as the trading-site believes they can earn commissions allowing it to trade on their site, they may not be concerned with whether it’s legitimate or not.
So what does the Consortium do? Well, day one of trading, The Consortium buys and sells with itself – setting the price as they go. Let’s begin:
Day 1
In one account on the trading website, the Consortium put up a list of offering prices for SuperCoin (they actually write a program to do this automatically and intelligently). The first offering list looks like this:
0.224 SuperCoin @ $1.00/1 coin
0.121 SuperCoin @ $1.01/1 coin
0.544 SuperCoin @ $1.03/1 coin
1.000 SuperCoin @ $1.051/1 coin
But no one will buy any of these coins yet as no one knows what they should be worth. So that’s where the Consortium steps in again.
In a different account, they buy 0.224 SuperCoins @ $1.00 from that first account @ $1.00/coin. This costs of $0.224 cents PLUS commission of about $0.5 paid to the exchange.
The selling account receives the $1.00/coin paid (or just $0.224 cents) LESS commission of $0.05 cents.
The Consortium basically still own the same amount of coins (since they bought and sold between themselves) and are only out the commissions paid to the trading site of $0.10. But what else have they done?
They’ve painted the tape. (A reference to the old ticker-tape stocks used to trade on). They’ve made it look like a legitimate buyer and seller agreed to transact at a real price, that at least in the mind of the buyer represents some real value. By doing so, they’ve ‘established’ a phony valuation for the coins market capitalization.
Since there are 1,000,000 coins in existence, and the last ‘trade’ valued a single SuperCoin at $1.00, then definitionally, the market capitalization of all SuperCoins is $1,000,000! Amazing!
Of course it’s all smoke and mirrors until they get real outsiders to fall for the scam and commit their own money – but until then, they can keep trading ‘between themselves’, moving the prices ever higher and higher (all they need to pay for are the trading commissions along the way). This will give the illusory appearance of real trading volume, as well as an implied ‘market capitalization’ in the millions.
They know they don’t have to worry about someone selling coins to them because they own all the coins and there is no ability to short them. They can bid as high as they want and not have to worry about someone besides a Consortium member selling them coins and costing the Consortium money. Remember, anytime they ‘sell to themselves, they are only losing the commissions – nothing more… and if they trade fractions of a coin then even that can be a relatively small amount of money.
So lets say this goes on for a day, and they log 1000 trades, constantly bumping the price higher and higher – until it reaches $2 a coin.
Now Phil, a newcomer comes to the trading website.
Phil sees that SuperCoin has risen 100% in one day! From $1 to $2 a coin! Amazing! So he googles it, and quickly finds the website. The ‘market capitalization’ of SuperCoin is $2 million (which he learns from the site) and after skimming through it, decides it looks ‘legit’. He decides to buy $100 worth of Supercoins as an investment.
He pays $100 to buy 50 coins at $2 each.
The Consortium is ecstatic! They’ve got someone on the hook (and have just made $100 less commission). What they hope for now is that Phil will simply log-out of the trading site, and sit on his 10 Supercoins.. but they need to be careful in case he wants to trade it. So now, they drop all the bids and offers to below $2.00.
Phil is annoyed. He just bought it at $2/coin, and now there are more for sale at $1.80 a coin (the Consortium’s offers). And the next highest buy price (he can sell his to) is $1.50 (unbeknownst to him, A Consortium bid). He waits for a little while, and then decides he made a bad trade – so he sells half of his coins (25) at $1.50. He’d like to sell all 50 at $1.50, but the size of that ‘buyer’ (a Consortium price) was only for 25 coins, and now the next highest bid is $1.25 for 10 coins. He decides to wait and not trade anymore that day.
The consortium is happy now- they’ve sold 50 coins @ $2.00 each, and bought back 25 coins @ $1.50 each. Sold high, bought low. They’ve fleeced poor Phil.
The trading dynamic can get far more complicated from here. As more people visit the site, more buyers may emerge, and the Consortium may find more people to buy. Some may hold, some may sell after a while, but the whole time the Consortium has a lot of power to manipulate the price. Why? Because
- they own so many of the coins, and
- they can do a phony trade between themselves anytime they want!
I won’t go into any more details here, as it can get complicated very quickly and I hope I’ve made the point I wanted to make. Namely, if a Consortium controls much/most of the coins in circulation and is smart enough to develop trading rules to ‘trade amongst themselves’, they can manipulate the prices to fleece speculators for thousands if not millions of dollars.
So how can you protect yourself?
The answer is in research, and knowing what to look for in terms of red flags.
Don't forget to follow me at @randomizer for more articls about all kind of future technologies and feel free to leave your comment and participate in the discussion !