The cryptocurrency market is deprived of regulation by the supervisory authorities. The market is young and not yet fully established. The principles of operation of classical financial markets provide for methods to protect the rights of investors from unfair practices of market participants who have insider information or opportunities to manipulate the market. The pump and dump scheme (literally "acceleration and drain" of a trading asset) belongs to such market manipulations. These schemes are widely used in the cryptocurrency market. Why did this happen and how to protect yourself from it?
Similar schemes have arisen in the course of securities trading. The famous films "Boiler Room" and "The Wolf of Wall Street" show the story of the well-known trader Jordan Belford, who organized these schemes. The main participants in this manipulation are traders-promoters (pumpers) and traders-investors. The first are the organizers of the system, sell the idea based on supposedly insider information to traders-investors who accelerate the market with their money, involving more and more new participants in it.
Often such schemes arose on the penny stock market. These shares, which were worth cents and had a small capitalization, attracted scammers who organized grand increases of price based on the dissemination of positive but false information.
The most comprehensive pump and dump scam is the story of the American company Enron.
The management of the company, having access, and having information about the actual situation, undertook a dispersal of shares, giving false information about the alleged financial success and attracting new investors to the shares. Financial statements were distorted - everything was just fine on paper, but in life, the company was on the verge of bankruptcy. At the peak of the price, the managers sold their shares. Later, the scam was revealed - the company's shares fell, and Enron predictably went bankrupt.
How does it work?
To organize such manipulations on the cryptocurrency market pumpers use messengers. Telegram groups are especially popular. This messenger uses encryption when transmitting messages, allowing you to maintain the anonymity of the transmitted information since the encryption process is based on the principle of asymmetric keys that are stored on the client's device. There are many groups in Telegram that coordinate such activities. Pumpers choose a pump object, agree on the start time of the coin acceleration, distribute information emissions after the pump starts in social networks and forums to attract investors to the coin.
At the specified time, the pumpers begin to buy coins - this can occur both on one or several exchanges. With the beginning of the pump (stage of the pump), informational support of the pump is organized - allegedly positive information is being thrown in, which is fake news. Unsuspecting investors join the pumpers. After the paper is dispersed, the profit is fixed (dump stage) with pumps, and losses are calculated by would-be investors.
With the onset of strong growth in Bitcoin in 2016, a large number of new coins were born that had a small capitalization. Such coins, entering the market, have no history, as a rule, except for the "white paper" (a memorandum on the issue of an asset with its technical description and capabilities), nothing is known about them.
Lack of information and regulation gives rise to rumors and speculation - both negative and positive. The positive news is that the coin is accelerated. The output and generation of positive, but inaccurate (fake) news and use pumpers. Although on small coins, it is enough to start buying crypto to move the quote.
Can this be overcome, and how to avoid it?
Unfortunately, these are the costs of the cryptocurrency market - this market is decentralized. On the one hand, this excludes government intervention, and, on the other hand, it deprives the investor of protection against manipulation in this market, since there is simply no one to exercise control over market participants. But the crypto exchanges themselves have already begun to pay attention to this phenomenon - such schemes compromise their work. On November 27, 2017, the Bittrex crypto exchange changed the rules for its clients, introducing restrictions for those who deal with pump and dump schemes - suspicious accounts of clients who will be involved in manipulations will be blocked, and with the transfer of information about such clients to the appropriate authorities.
A pump and dump scheme is a market manipulation scheme to earn money on a sharp rise in an asset. It is necessary to be very careful about speculation with a small-cap currency to avoid falling into such a scheme.