As the cryptocurrency industry has grown exponentially over the past few years, it has been infiltrated by cyber criminals trying to profit from victims in this booming market. One of the most notorious crypto crimes used today is carpet pulling.
Such scams have resulted in the loss of millions upon millions of dollars, but how do they work and how can you avoid falling for one?
What is a Crypto Rug Pull Scam?
Since the price of a cryptocurrency can increase to many times its original value in a matter of hours, many try the get-rich-quick approach to investing. Much of the crypto trading industry is focused on buying low and selling high, so it’s no surprise that many traders are flocking to coins or tokens that show promise. It is this hope or vulnerability that cybercriminals exploit when they carry out rug-pull scams.
A crypto rug-pull scam (the name refers to having the rug pulled out from under you unexpectedly) involves launching a token, attracting investments, and pulling the plug. You may have heard of a rug pull scam before as they are pretty commonplace even in the traditional financial world. But the lack of regulation surrounding cryptocurrency makes it even easier to pull off scams, which is why they are now worryingly numerous in the crypto market.
Crypto rug pull scams often involve tokens rather than coins. This is because tokens can be built on top of a pre-existing blockchain such as Ethereum or Zilliqa. Because these popular blockchains have a native cryptocurrency that has value, users can buy tokens from a project using the native currency. Let’s create our own example of a pump-and-dump rug pull to better understand why this is useful for cybercriminals.
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An example of the Crypro Rug Pull Scam
Suppose a new project called BonsaiDAO was started on the Binance Smart Chain. Binance Smart Chain’s native coin, Binance Coin (BNB), can be used to buy BonsaiDAO’s native token, which we will call BONS. Let’s say an investor bought 5,000 BONS for 1 BNB (which is currently around $300).
Since the investor paid for the project in BNB, the scammer can quickly liquidate this BNB in cash or send it to another wallet for further use. So, in a rug-pull scam, the criminal takes the investor’s $300 worth of BNB along with all other investments made in the form of BNB and sets off.
But why would anyone invest in a new coin that hasn’t proven to be valuable over the long term?
Pumping The Rug Pull
Marketing plays a big role at Rug Pulls. Scammers are heavily marketing and promoting their rug pull tokens to generate buzz around their project. This is often done through social media (particularly Twitter) where a polished and professional image of the project can be faked. Scammers also often launch an Initial DEX Offering (IDO) to raise capital on a decentralized exchange. This is essentially just introducing a set number of tokens to an exchange for them to be traded.
Investments grow with the hype. People see the project’s social media accounts, notice an uptick in trading a crypto, or hear from other investors that there’s a new hot crypto on the market, and decide to invest on their own in hopes that the Crypto will gain significant value. As soon as the project has enough financial support, everything collapses.
When cybercriminals launch a rug-pull token, they keep a large chunk of the supply for themselves. Consider the BonsaiDAO example again. When 1,000,000 BONS are launched in the IDO, the scammers decide to keep 75 percent of the BONS for themselves. Why? Because as the number of investors increases, the value of BONS increases and the scammers have more money in their pockets in the form of BONS.
So let’s say BONS has reached $20 per BONS token within a few weeks. If the scammers kept 75 percent of the circulating supply, they now have $15 million in BONS for themselves. Faced with this sharp price increase, the scammers sell all their BONS back to the decentralized exchange and make a huge profit in the process.
Because 75 percent of the total supply has now been sold back, demand is falling and with it the price. This means that investors who put their trust and money in BonsaiDAO are now left with nothing.
This is how a rug pull scam can often play out, but there are two other types of rug pulls: stealing liquidity and limiting sell orders.
What is liquidity theft?
Liquidity thefts are also rampant in the crypto industry. In liquidity theft, scammers list their new token and pair it with a well-known cryptocurrency like Ethereum. Cryptos can be paired in this way into liquidity pools, a popular tool used by investors to generate profits. The amount of each crypto in these pools can be changed based on value, demand, etc.
If a scammer creates a pool pairing their scam token with a valuable asset and more people invest in that pool, their scam token will increase in value. To even things out, more of the established token is added to the pool and some of the scam token is removed. Once the token has become valuable enough and there are enough other cryptos in the pool, scammers will pull all of the latter out of the pool.
What does the limit on sell orders involve?
Scammers can also code their token so that only a limited amount of it can be sold on a decentralized exchange. This means that investors invest in a coin without knowing that they cannot trade it. When the scammer has made enough money through investments, he sells his share of the tokens back to the exchange and makes a profit.
Many scams have happened in the crypto industry so far, some of which managed to steal millions from investors. For example, consider the Squid Game Crypto Rug Pull (a limit sell order scam). This crypto went from a fraction of a dollar to over $90 in value in just a few days. The scammers here capitalized on the hype surrounding Squid Game, Netflix’s hugely popular South Korean show. As soon as SQUID reached its highest price, the developers pulled the plug and stole over $3.3 million from investors.
But when so many people have fallen for these rug pulls, can they really be avoided?
How to spot and avoid rug-pull scams
The first thing to look out for when considering investing in a cryptocurrency is its age. Was it created just a few days or weeks ago? If so, it’s definitely a flight risk. Without seeing a crypto’s long-term value, you just don’t know if its creators have illicit intentions.
Second, if a crypto’s price has skyrocketed shortly after its launch, it could be an indicator of a carpet-pulling scam. Scammers often don’t want to wait months or years to make a profit and try to increase the price of their token as quickly as possible. So watch out.
You should also check whether the developers of a project are anonymous or not before investing. Scammers always remain anonymous for obvious reasons, so it’s worth bearing in mind when researching an asset. However, some large, legitimate projects also have anonymous creators. Even the creator of Bitcoin is unknown. But the identity or background of developers can be very revealing.
Check out the social media accounts and other sources surrounding a token’s developers to see how established they are.
You should also consider distributing a token before investing. Keep in mind that rug-pull scammers often keep a large chunk of their token for dumping. This can be one of the clearest signs of an upcoming carpet move.
You can also look at lists of scam tokens, which you can find with a simple browser search, to see if your chosen token is blacklisted.
Rug pull scams are rampant in the crypto industry
Crypto rug-pull scams can wreak enormous financial havoc and have left a lasting mark on the crypto industry. These scams can be so sophisticated that even a seasoned trader can be fooled and the ease with which they can be pulled off is really concerning. Because of this, it is important that you remain vigilant and aware of the key signs of a potential rug pull scam.
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