Pumps and dumps, words that we often encounter in the crypto world. But why and where does it originate? Perhaps more importantly, how do you recognize the phenomenon?
An explanation of the pump and dump
A pump & dump is often associated with a company's IPO. The first time a share becomes tradable on the stock exchange. At the IPO, the price is predetermined, with a large percentage of shares being sold to acquaintances of the first shareholders. As a result, the price skyrockets, after which shares with a high profit are resold and the profit is passed on to the first shareholder. This is insider trading and absolutely impermissible in the eyes of a financial authority such as the Dutch AFM or the US SEC.
The most famous Dutch example is the flotation of World Online on Friday March 17, 2000. Announced by a huge advertising campaign and a lot of media attention, the share opened at 50.20 guilders. Large shareholders such as TROS, the NS and Telfort were the first to sell their interest. The buyers of these shares were only unaware that the founder had sold her shares for $ 6 weeks in advance.
When the stock market opened on the monday after the weekend, sales orders started raining. After three weeks, the share price had halved and a storm of criticism followed that focused on founder Nina Brink. Justice started a criminal case and it was not until 2009 that the Supreme Court pointed out in cassation that World Online and the banks that supervised the IPO had acted unlawfully, by painting too rosy a picture. They were found guilty of deception.
In English, an IPO is equivalent to an IPO, an Initial Public Offering. The first time a stock is publicly available. In the crypto world, we know the ICO, the Initital Coin Offering. A funny pun where a coin becomes publicly tradable for the first time.
Today, crypto tokens are traded worldwide in unregulated markets. With a normal ICO, about 70 percent of the supply of tokens is sold, but with a typical pump and dump ICO, this percentage is often even below 20 percent. Then, part of the money raised is used to be listed on popular exchanges, such as Binance.
This creates a hype and enormous demand, which is expressed in the form of a high trading volume on a particular exchange. This massive price hike combined with high trading volume allows the founders of the ICO to sell the remaining 80 percent of the tokens for a much higher amount than the agreed price for the ICO. In this way, they can get many times more for their tokens than if they had sold their tokens during the ICO.
The best example of this practice is QuarkChain. They have responded to the demand for a blockchain with a high transaction capacity. She claimed that the blockchain they developed could process 1 million transactions per second. The ICO was promoted by paid - often known - people, so-called “paid shills”. These are youtubers or other social media influencers with a lot of followers, who receive a discount during the pre-sale in exchange for promotion of the ICO. They often have prior knowledge with which they can then dump the tokens together with the founders.
QuarkChain has only circulated 4 percent of the total token offering. After the ICO, they used the money raised to be listed on several major exchanges, including Binance. When this happened on June 4, it gave the founders the opportunity to dump tokens for up to 0.34 cents. That was almost 20 times more than the ICO price of 0.019 dollar cent. The graph below clearly shows that the volume after the IPO is extremely high, but that the value only goes lower and the volume remains low, just like with World Online.
In summary, these pump and dumps are characterized by a lot of promotion by “shills” and a low percentage of tokens offered during the ICO. The most obvious indicator is when no one in the Telegram chat seems interested in the product itself or holding the tokens. Certainly when they only look for the quotes on stock exchanges like Binance, with which they can “flip” the ICO, this can be called a big red flag.
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