What Is a Cryptocurrency Exit Scam?
A cryptocurrency exit scam is a fraudulent practice where a cryptocurrency is promoted via an initial coin offering, and the promoters disappear with the money raised. Another name for this scam is “rug pull” because the scammers essentially pull the rug out from under investors.
Key Takeaways
- A cryptocurrency exit scam is a purported cryptocurrency project whose promoters disappear with investors’ money during or after an initial coin offering (ICO).
- The process involves promoters launching a new crypto platform, marketing the currency and concept, raising money from investors, possibly running the business for a short time, and then disappearing with the money and abandoning the project.
- It was difficult in the past to trace these scammers due to virtual currency systems’ decentralized, anonymous, and regulation-free operations, but it has become easier.
- To spot a possible exit scam, look for team credibility, extravagant return projections, documentation standards, a non-existing working model, and heavily promoted offerings.
Crypto Exit Scam Red Flags
Though it is difficult to clearly identify a dubious ICO, investors can keep the following points in mind before making an investment decision.
1. Team Credibility
The biggest challenge with the virtual world is accountability and ownership. Before investing your hard-earned money in ICOs that may look very promising, an investor must verify the credentials of the crypto team.
Keep in mind that likes, tweets, and followers can be purchased on various social media platforms to build fake online credibility. Therefore, you should do a basic check on ICO promoters and the backers of cryptocurrency projects and the kind of connections/followers they have.
Developers should have credentials that are easily identifiable. For example, LinkedIn pages should have verifiable work and project history, possible connections to others in the same industry, and list their qualifications. It’s possible that someone new to the industry could work on these projects with experienced people, but this should be clearly pointed out in the documentation or on the project’s website.
2. Extravagant Return Projections
Is it too good to be true? Then it probably is. For instance, BitConnect promised a steady 1% daily return, which would have transformed an initial investment of $1,000 into a return of more than $50 million within 3 years.
Important
The cryptocurrency world is still a new and complex investment arena. Like all investments, if you don’t understand the product, the financials, or the company, it is best to avoid investing in it.
In January 2018, BitConnect abruptly shut down its lending and exchange services after experiencing a meteoric rise and burgeoning client base since its ICO in December 2016. The company’s market cap, which exceeded $3.4 billion at its height, suddenly tanked.
3. Documentation Standards
The project’s white paper is a key document. It should be a research paper, written as a proposal to address a problem with clear methods for designing a blockchain and cryptocurrency. Many investors may not understand the language used in these research papers because it will be data science jargon, math, cryptographic techniques, and networking and computer science terms.
However, if the white paper reads like a pitchbook or doesn’t appear to be addressing a problem, an eyebrow should be raised. Many crypto whitepapers mimic the white papers of popular and successful cryptocurrencies, so it helps to become familiar with them.
4. Non-Existent Working Model
Does the cryptocurrency project have a bare-bones working model? If it is a concept-only, non-existent product, then it probably won’t work. It is true that some new-age technology may need to be designed completely from scratch, but promoters who want to raise millions of dollars should prove their project is worth investing in. To be safe, investors should avoid dubious offerings from obscure individuals.
5. Heavily Promoted Offerings
Big promotions may be another sign of an exit scam. It is common to see full-page ads of new ICOs by lesser-known founders in the print media in populous nations like India. Confido also reportedly paid bloggers to spread the word on various online forums.
While all ICO offerings with big promotions may not be dubious, an investor needs to take a cautious approach and check the claims made.
6. Project Pages or Websites
Valid blockchain and cryptocurrency projects normally create websites that clearly explain how the blockchains and techniques used work. They are very obvious in their intent to communicate and be transparent about what they are doing.
Many also use a GitHub page for collaborative development, and you should be able to view these pages unless it is a private, proprietary blockchain and crypto. If this is the case, the business should be very transparent about its activities.
7. Registration
A cryptocurrency that is being offered to investors likely meets the conditions to be considered a security offering. If it is being used to raise funds, it will need to be registered with the state it operates in and with the Securities and Exchange Commission.
These requests should be available on the issuer’s website and in the SEC’s EDGAR database. If they are not registered, it’s best to avoid them.
Cryptocurrency Exit Scam Examples
In November 2017, an escrow-related cryptocurrency startup, Confido, disappeared overnight after collecting $375,000 through its initial coin offering (ICO). Following the news of the Confido exit scam, the cryptocurrency’s market cap fell from about $6 million to $70,000 within a week.
LoopX is another crypto startup whose ICO promised “guaranteed profits every week thanks to the most advanced Trading Software out there to date.” It abruptly shut down in February 2018 after raising $4.5 million from investors through a combination of Bitcoin and Ethereum.
And in 2020, the decentralized finance project Yfdex.Finance (Yfdex) made off with $20 million of investors’ money after only two days of promoting itself online.
What Is a Crypto Exit Strategy?
When investing in crypto, it’s best to have an exit strategy, which is a specific price target at which you’d prefer to close the position by selling off your holdings to minimize losses.
What Is an Exit Scam in Cyber Security?
Exit scams are when developers suddenly abandon a project and disappear with investors’ money.
Are Crypto Withdrawal Fees a Scam?
If the platform you use for cryptocurrency asks you to pay taxes and fees for withdrawing your money, it is most likely a scam. Legitimate exchanges do not require fees and taxes when accessing your money.
The Bottom Line
Scams and frauds are common even in the well-established centuries-old stock markets, which are well-regulated. The anonymous world of cryptocurrencies adds more risk due to its non-regulated nature.
In the end, it is the investor who shoulders the responsibility to not get scammed out of their hard-earned money. Questionable teams, extravagant profit projections, explaining a business model or how a project will use funds, and a lack of transparency and registration are all indications that a cryptocurrency or blockchain project is likely a scam.
Read the original article on Investopedia.