NFT buyers beware of 'wash trades' that generate sales hype
14:58, 8 February 2022
Sales of blockchain-related digital assets – known as non-fungible tokens (NFTs) – have soared with $44.2bn (£32.6bn, €38.7bn) of cryptocurrency transactions associated with NFT marketplaces and collections last year, according to data compiled by Chainalysis.
But as unregulated digital marketplaces continue to attract investor money, they have also attracted unscrupulous techniques to bid-up asset offerings such as “wash trading”.
Wash trading – which was outlawed on US financial markets by the Commodity Exchange Act of 1936 – involves one party repeatedly purchasing and selling a particular asset in order to manipulate its trading volume and market price by acting as both buyer and seller.
Citing data compiled by DappRadar, Reuters reported that $1.3bn of the $10.7bn of NFT transactions last month on fledgling NFT trading platform LooksRare came from only two wallets, suggesting wash trading in action.
NFTs explained
NFTs are unique, non-tradeable ("non-fungible") ownership receipts for digital assets that are tracked on a specific blockchain – such as Ethereum – to prove authenticity. They can take the form of a static image, video clip or an animated 3D image.
They are commonly bought and sold on specialised marketplaces which include OpenSea and LooksRare in a similar way to buying and selling physical sports trading cards on an online auction site such as Ebay.
NFTs and the larger cryptocurrency space seem to operate in a legal grey area as key regulators such as the US Securities and Exchange Commission have yet to make a firm ruling on the status of cryptocurrency-based assets. That leaves investors with few legal protections.
Two crypto analytics firms recently disclosed their findings on wash trading amongst the NFT ecosystem.
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LooksRare platform
Launched in January, LooksRare is the community-first NFT marketplace that actively rewards traders, collectors and creators for participating, it said in an opening blog post.
In order to attract people to its platform, LooksRare was giving away (“airdropping”) its own LOOKS token cryptocurrency to people who had used rival platform OpenSea. LooksRare also gives LOOKS tokens to NFT buyers and sellers on its platform.
LOOKS tokens can be traded for other cryptocurrencies and are listed on Coinmarketcap, the crypto world’s version of the back pages of the Wall Street Journal or Financial Times.
Token promotion
The token giveaway to platform users may have been the cause of wash trading on the platform, identified by DappRadar as early as 12 January.
In a blog post, DappRadar identified two cryptocurrency wallets buying and selling the same NFT six times.
DappRadarNFT data firm CryptoSlam recently removed $8bn in wash trades from their NFT sales volume figures for the LooksRare NFT platform which launched last month.
TwitterIn its platform documentation, LooksRare states that its systems are set up to prevent wash trading.
"The trading rewards system has been designed and iterated upon to heavily dissuade users from trading for the sole purpose of farming LOOKS rewards," LooksRare said in a post.
Chainalysis study
ChainalysisAnother crypto data firm identified wash trades amongst NFT transactions taking place last year, with NFT platform OpenSea
Chainalysis spotted and tracked NFTs that were sold back and forth at least 25 times by the same group of cryptocurrency wallets – what the company’s analysts say are overt examples of wash trading.
In the 110 profitable cases in 2021, sales from those NFTs made nearly $8.9m.
“Wash trading in NFTs can create an unfair marketplace for those who purchase artificially inflated tokens, and its existence can undermine trust in the NFT ecosystem, inhibiting future growth,” Chainalysis commented.
No guarantee
Wash trading is not always a guarantee of profits, however.
Every Ethereum transaction – the underlying blockchain used to track and verify NFTs – is subject to a small commission known as a “gas fee”. So an entity repeatedly selling to themselves needs to continue to pay these commissions, hoping to recoup their outlay with an eventual NFT sale for a profit.
Potential NFT platform investors should take the time to look at NFT metadata sources to make sure they’re not on the “dump” side of a possible NFT “pump and dump” transaction.
LooksRare does not have any phone or e-mail contact points and a representative for NFT platform OpenSea didn’t return an e-mail from Capital.com seeking comment.
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