So guys, let's talk about wash trading.

According to recent reports, wash trading, a scourge which has plagued financial markets and cryptocurrency exchanges, may also be an issue in NFT markets, but for the uninitiated in regular stock trading and investing in traditional markets, let alone crypto trading and investing, this is yet another complicated terminology that might be difficult to grasp. But, as cryptocurrency exchange Binance explains, one needs to be aware of market manipulation, i.e., attempts to artificially influence an asset's price or the market's behavior by creating an illusion in the market and profiting from the aftermath.

"Market manipulation increases volatility in the crypto market, making it appear chaotic and unsafe to new investors. If crypto market manipulation continues to have grey areas, regulators and governments will continue to scrutinize the nascent sector.

The low volume of specific coins is easy to manipulate, and the large spikes followed by a drastic drop are all too common, especially on smaller crypto exchanges.

Sometimes, whales don’t even need to buy or sell the asset. They can send out a cryptic tweet and cause an asset to soar or—even worse—plunge to the bottom."

-Binance

Let's break it down a bit.

What is Wash Trading?

Wash strategy is a strategy employed to rapidly buy and sell large sums of a cryptocurrency, artificially inflating its volume, generating increased activity, and feeding this misleading information to the market which causes oft-times vulnerable and less discerning traders and investors to panic buy or sell.

Wash trading was prohibited in the United States by the Commodity Exchange Act of 1936, and it has been defined by the Commodity Futures Trading Commission as:

"Entering into, or purporting to enter into, transactions to give the appearance that purchases and sales have been made, without incurring market risk or changing the trader’s market position" 

Put simply, as an investor, wash trading occurs when you attempt to both buy and sell an asset at the same time. Of course, this strategy is pure gold for cryptocurrency exchanges which generate revenue from transaction fees and attracting traders. So there are, arguably, economic incentives for them to create the illusion of liquidity or even to manipulate the value of the crypto assets they trade.

Wash Trading in Cryptocurrency markets

In March 2019, the Blockchain Transparency Institute published the Bitwise report warning traders that wash trading manipulation had been detected on some exchanges. The report stated that the real trading volume in the overall market at the time accounted for only 4.5% of reported volumes. 

A later report (October 2019) by TokenInsight claimed that cryptocurrency exchanges had advanced their wash trading algorithms to avoid detection, with some even developing technical improvements based on the findings of the Bitwise report.

And according to a recent article by NewScientist (November 2021): 

"As many as seven in 10 cryptocurrency trades on the world’s most popular but unregulated exchanges may be people buying from themselves to artificially inflate prices."

Allegations of NFT Wash Trading

The NFT market has not been immune. In fact, with increased attention focused on NFTs- the latest playboy in the world of digital assets- unscrupulous traders have been caught with their hands in the cookie jar, with allegations of wash trading on the platform of OpenSea competitor LooksRare.

What are NFTs?

Guys,  NFTs have been all the craze lately, both in cryptocurrency circles and also on mainstream media, so if you're telling me that you do not know what an NFT is, well... 

Here's a good definition by NBC News: 

NFTs, short for nonfungible tokens, are digital contracts that allow people to prove they own specific online assets, like official copies of a given artwork, and are usually bought and sold with cryptocurrencies, especially Ethereum. 

I kinda sorta touched on it myself in my article: NFT website HitPiece slammed with charges of voice piracy

So what is NFT wash trading then? 

Well, simply put, it's buying and selling your own assets to simulate artificial demand and create a buzz around a product or even a platform, and for all intents and purposes, it seems as though NFT platform, LooksRare is a classic example.

According to reports, LooksRare was launched on January 10, 2022 as a competitor for peer to peer NFT marketplace, OpenSea which has been in operation since 2017. On its second day of trading, LooksRare was already reporting reporting daily trade volumes that were more than double that of OpenSea's. Seems strange, right?

In an article published on Bankless Times, writer Daniela Kirova pointed out that daily transactions were less than 3% of those on OpenSea, but trading volumes were three and four times higher, suggesting that a small group of users were engaging in trades worth hundreds of thousands of dollars.  In fact, the writer states that on January 19th, two wallets traded more than $90 million with these wash traders receiving the majority of trading rewards on the platform.  

The NFT market reported approximately $44 billion in sales last year and it is speculated that a lot of that was really wash trading.

On February 2nd, blockchain data platform, Chainalysis released an article titled "Crime and NFTs: Chainalysis Detects Significant Wash Trading and Some Money Laundering In this Emerging Asset Class" ahead of its 2022 Crypto Crime Report.

In the blog, Chainalysis states that its analysis of NFT sales to self-financed addresses shows that some NFT sellers have conducted hundreds of wash trades. Further, the organization points that while most NFT wash traders were unprofitable, those who were successful, profited immensely, with 110 profitable wash traders collecting nearly $8.9 million in profit.

"Even worse, that $8.9 million is most likely derived from sales to unsuspecting buyers who believe the NFT they’re purchasing has been growing in value, sold from one distinct collector to another... 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

Now, guys, while it's left to be seen what the implications of this report will be for future NFT trading, this is the reason why one of the hallmarks of crypto trading and investing is Do Your Own Research. Even in terms of NFT acquisition, due diligence is crucial. And in terms of crypto investing, this is another reason why I think dollar cost averaging is a good way to get past wash trading and other attempts at market manipulation.

Maybe if you have a mix of assets rather than going all in on one crypto project, this might also help to protect you as well.

Well guys, that's it for me. What are your thoughts on the allegations over  at LooksRare? Does the prospect of wash trading affect your confidence in terms of making an NFT purchase? And what are your recommendations for buyer protection in the future? I'd love to hear your thoughts.

Until we meet again, please remember to be safe! Arrivederci!