The NFT market is booming, as are certain deceptive activities. Wash trading is a case in point, and is causing quite a stir in the ecosystem.
The latter is a market manipulation tactic that exploits the culture of FOMO. Unfortunately, this practice not only hurts traders, it also damages the integrity and reputation of the ecosystem. In this article, we’ll explain not only how this practice works, but also how to identify it.
What is an NFT?
Non-fungible tokens (NFTs) are unique digital assets stored on the blockchain. Each NFT has a smart contract that records its history, owners, sales volume and resale value. This valuable information helps potential buyers assess its demand and price.
What is wash trading?
Wash trading is a market manipulation tactic that involves buying and selling the same asset repeatedly to create a false impression of demand by increasing the number of transactions in order to inflate an asset’s price.
In the NFT market, wash trading is possible because trading platforms do not require identity verification (KYC). This allows a user to use multiple wallets to buy and sell their own NFTs, creating the illusion that there are many buyers to other users.
Why do some players practice wash trading?
The three main reasons behind wash trading are as follows:
Suggesting high demand: A user may create a false impression of demand by repeatedly buying and selling an NFT, even though there is no real demand for it.
Implying an inflated value: A user can create a misleading trading history by exchanging an NFT with himself at an inflated price. This can encourage naive buyers to overvalue an NFT and buy it at a high price.
Getting an airdrop: Some marketplaces regularly reward their active users with airdrops based on purchase volume. This marketing strategy can drive some traders to generate more volume and sometimes wash trading.
The impact of wash trading
Wash trading has negative consequences for buyers, artists and the market itself. For buyers, it means paying more for NFTs than they’re actually worth. Also, artists’ reputations and future sales could be affected by this practice. Wash trading could also diminish confidence in the ecosystem and deter new users from entering the market.
How to detect wash trading
To avoid falling into the wash trading trap, it’s crucial to know how to detect it. Signs of wash trading include:
Multiple purchases by the same wallet address: If a single wallet address has purchased an NFT multiple times, this could indicate an attempt at manipulation.
Self-funded sales: If there have been transfers of cryptos between the selling and buying wallets, this could indicate an attempt at manipulation.
Fortunately, there are tools to detect wash trading. Block explorers such as Etherscan allow users to track transactions between wallets and determine whether a sale is self-funded, for example. Users can also examine an NFT’s sales on different NFT marketplaces and look for suspicious transactions involving, ultimately, a single wallet.
In conclusion, wash trading is a practice that threatens the NFT market. Buyers need to be vigilant and use tools to detect this deceptive practice. Ultimately, the key to avoiding wash trading is education and in-depth knowledge of how the NFT ecosystem works.