Rug pulls are scams in the cryptocurrency industry wherein a developer abandons the project and takes all of the investors’ money.
The term originated from the idiomatic expression “pull the rug out from under,” meaning to “abruptly withdraw support from (someone).” In rug pulls, the creator pulls out.
How do rug pulls happen?
In Decentralized Finance (DeFi), a rug pull starts with the creation of a project. The person(s) behind this project creates a token and lists it on a decentralized exchange.
It is presented to the public in two ways:
by putting it in a liquidity pool and pairing it with a popular token such as Ethereum (ETH)
as an Initial DEX Offering (IDO), wherein investors are convinced to purchase the coin but have it locked in for a while until a certain level of liquidity is reached (or åso they’ve been told)
The project developers hype the coin by promoting it on various platforms such as Facebook, Twitter, Reddit, and Discord. The promise of high returns makes the project irresistible. Investors are lured into providing liquidity to the fake token by putting in their valuable tokens.
Once the project has been hyped and a considerable amount of money has been invested into the project, the developers pull the rug and run away with the money. Because the money was pulled out, the project’s liquidity drops. This coin’s price now crashes to zero. Investors are left with a worthless fake token.
What are the signs of a rug pull?
Social media hype
Scammers need all the hype they can avail for investors to be tricked into getting on the artificial bandwagon. Once all passengers pay their dues, the crook cuts all ties and leaves everyone in the middle of nowhere.
Unresponsive social media account or broken website
The genuine intentions of the developers can be seen in their availability to address the investors’ concerns.
One way to test this aspect is by joining their communities and asking hard questions. If you get banned or muted, that means they find you to be a challenge. They think you might turn off potential investors.
Sudden price increase
If it’s too good to be true, it probably is. A shocking price increase (e.g. $1 to $1,000) is a red flag. This puts the unsuspecting into a “Fear Of Missing Out” attitude.
No audit check
Audit checks are done to sweep bugs and traps off of smart contracts. These audits are expensive. If the developers did not invest in one, they are not in this for the long haul.
If very limited information is available on their social media or website, this means they are not willing to disclose everything to the public. A diligent investor would check on the developer’s credibility and trustworthiness.
Inability to sell
To check the project’s liquidity, experts recommend dipping your toes on the water first. Put in a small amount then sell it. If that does not work, don’t dive.
Few wallets owning huge portions of the tokenomics
The tokens should not be distributed to very few wallets. Check its token distribution in a blockchain explorer such as Etherscan.
No liquidity lockup
The company’s fund should be locked in the liquidity pool through a smart contract to ensure the investors that the pool doesn’t get easily and quickly drained.
Rug pulls that happened in 2021
According to Chainalysis, crypto investors lost $2.8 worth of cryptocurrency to rug pulls in 2021. Here are some of the biggest scams you might want to learn from:
Squid Game coin
Squid coin was marketed as a token for an online game inspired by the popular Netflix series Squid Game. From less than a centavo, the price skyrocketed to over $2,856.
CoinMarketCap issued a warning that buyers were unable to resell their tokens, but the developers were still able to acquire $3.38M from the scam.
A day after its launch in March 2021, Meerkat Finance announced that it was hacked and that the perpetrators were able to get away with $31M. After the announcement, Meerkat’s online platforms stopped working. Investors then concluded it was a rug pull.
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