How wash trading is distorting the price of NFTs
Feb 10, 2022 – 9.23amSome buyers of non-fungible tokens are being duped into overpaying by sellers who have pumped up the value of the digital assets through a run of cooked-up sales between related parties.
Some of these NFT sellers are making a killing “wash trading” their digital assets, but the majority of people trying to game manic NFT markets are actually losing money.
Wash trading refers to a transaction in which the seller is on both sides of the trade. It is designed to boost perceptions of the value and liquidity of an asset.
An NFT from the Drop Bear/Bush Chook collection. Drop Bear/Bush Chook
New research by Chainalysis, the New York firm advising the Commonwealth Bank of Australia on its crypto program, reported that 110 wash traders generated $US8.9 million ($12.4 million) from the practice in 2021, dwarfing the 152 wash traders who actually lost nearly $US417,000.
“It’s very expensive to wash trade,” Chainalysis director of research Kim Grauer told The Australian Financial Review. “But we’ve found a subset of professionals who have put in the energy and time to establish a real wash trading strategy.
“But what we found is prolific wash traders often spend more money on gas fees, up to tens of thousands of dollars. Add that to the fact you might not have any luck getting people to fall for your wash trading, then it’s a risky thing to do and, a lot of the time, seriously unprofitable.”
Gas fees are charges put in place by open-source platform Ethereum to compensate for the energy required to verify transactions and make the network secure.
NFTs – blockchain-based digital items that are designed to be unique and can include images, video, audio, memberships and more – took off in 2021 as one of the biggest growth areas in cryptocurrencies.
Chainalysis said in 2021 it tracked a minimum of $US44.2 billion worth of NFT transactions on Ethereum. That was up from only $US106 million in 2020.
A Chainalysis report said wash trading has been a concern for cryptocurrency, but was heightened with NFTs because “many NFT trading platforms allow users to trade by simply connecting their wallet to the platform, with no need to identify themselves.”
As it stands, NFT markets are flooded with speculative traders looking to secure highly prized assets with a view to offloading them at a higher price later.
Chainalysis said, through blockchain analysis, it can track NFT wash trading by looking at sales of the digital tokens to addresses that were self-financed – that is, being funded by the selling address, or an address that initially funded the selling address.
One example found was an address that had made 830 sales to addresses that were self-financed. The report found the seller sold and bought the same NFT from a marketplace with different addresses, and also that the original seller sent currency to a buyer just before the NFT was purchased from the marketplace. This particular seller, however, has so far failed to profit from wash trading due to money spent on gas fees during the transactions.
Chainalysis identified 262 users who have sold an NFT to a self-financed address more than 25 times – a level it believed reflected users who are “habitual wash traders”. Of those, 110 made a profit.
The overall net profit – sales of NFTs less gas fees – made by those users on Ethereum or Wrapped Ethereum in 2021 was $US8.9 million. The figure could be higher if other platforms were included.
Wash trading is prohibited for conventional shares and futures contracts, but NFTs have yet to come under similar regulation.
“NFT wash trading exists in a murky legal area,” Chainalysis said.
The New York-based firm said the wash trading practice undermines trust in the entire NFT ecosystem.
“Blockchain data and analysis makes it easy to spot users who sell NFTs to addresses they’ve self-financed, so marketplaces may want to consider bans or other penalties for the worst offenders,” it said.
Max Mason is a senior reporter at The Australian Financial Review. He is a former media editor and telecommunications reporter at the masthead and has previously worked at The Sydney Morning Herald, The Age, Fox Sports Australia and News Corp. Connect with Max on Twitter. Email Max at max.mason@copyright linkJessica Sier writes on technology, internet culture, cryptocurrencies and software from our Sydney newsroom. She has previously covered global capital markets and economics. Connect with Jessica on Twitter. Email Jessica at jessica.sier@copyright link
