when market manipulation affects NFTs

Marketplaces with distorted transaction volumes, collections with inflated prices, the NFT market still has to contend with dubious practices.

In the traditional finance sector, market manipulation consists in carrying out operations whose consequences will distort the information intended for the players in the ecosystem. In a regulated industry, this type of practice is censored.

Still emerging and above all largely decentralized, the NFT market is not under the supervision of an authority, at least for the moment. A lack of regulation leads to an increased risk of manipulation.

This happens in different ways, whether by the markets themselves, by the creators or even by the users.

NFT Marketplace, Victims or Perpetrators?

Dominated for several years by the OpenSea platform, born in 2017, the activity of the NFT marketplace has been driven by the appearance of many players, especially in the last two years with the arrivals of Rarible (2020), Magic Eden (2021), Looks Rares and X2Y2 (2022).

In this competitive sector, some therefore go through suspicious processes to distinguish themselves, in particular the use of wash trading, i.e. the artificial creation of transactions to inflate the trading volume and therefore the activity.

Acquisition of the X2Y2.io website. ©JDN

“First we had the case with Rarible, it was the first example,” confides Gauthier Zuppinger, co-founder of the analytical site NonFungible.com and author of a lecture entitled “The truth about market manipulation” at the NFT. London. “Later, we saw LooksRare, X2Y2 lend themselves to this. The latter is one of the biggest examples with over $500 million a month in wash trading. In 2022, we saw that 12% of trades in the market correspond to wash trading. It is significant enough to cloud a market’s reading.”

It is important to specify that the wash trading of NFT marketplaces is an open secret, the presentations of another data agglomeration site Dune.xyz also corroborate the words of the boss of NonFungible and also present evaluations of the marketplace that exclude suspicious transactions.

Among the main interested parties, the development manager of X2Y2 does not deny the presence of washtrading but disputes the responsibility of the platform. “It’s not something we advocate,” Derek Caussin replies. We ourselves, when we process our monthly statistics internally, publish the data without wash trading. Simply put, our protocol was designed to reward the most active and the traders who abuse it.”

This is in fact another explanatory factor for wash trading: some platforms such as Rarible, LooksRare and X2Y2 have created their own token, most often used as a reward to incentivize transactions on the platforms. In fact, some users generate tokens by making transactions around the same assets.

“Pay to trade encourages wash trading”

“This is the most common case,” said Gauthier Zuppinger. “It pays very, very well. This reward mechanic, pay to trade, encourages the washing trade.”

According to the analyst, one of the most evident patterns is that of repeated transactions between two wallets, usually owned by a single owner. However, current models would be increasingly complex with dozens of portfolios and assets involved, making the task of observers particularly difficult, if not impossible for a novice.

“You need to look at your sales history. If you see too much recurring activity, a similar transaction value, or wallet addresses going out too often, something is probably off. However, this t is always more complex for a novice at the user to come to a marketplace and try, on their own, to figure out what’s going on. It takes a lot of time and you have to deal with a huge amount of data,” slips Gauthier Zuppinger, whose team doesn’t rely on the APIs of potentially biased marketplaces, but on the direct analysis of the activity of the blockchains.

The creators of NFT works are sometimes responsible

NFTs now number in the millions, on a growing number of networks like Ethereum, Polygon, Flow, Tezos, Immutable X, Wax, etc. A jungle in which even the creators must stand out. In fact, some adopt a strategy similar to that of marketplaces, artificially inflating the price of their collection. All you have to do is create bigger and bigger transactions around the same asset or an entire collection. “In summary, a user will trade one NFT for the price of several ether (an ether is worth around 1160 euros as of November 16, 2022, ed) to inflate its price and give it visibility”.

And thus take advantage of the liquidity of an inexperienced collector.

In 2020, NonFungible.com was already talking about obvious cases, from Cryptokitties to some assets of the Decentral metaverse.

Even if zero risk does not exist, there are signs to best protect yourself from falling into the trap of artificially stimulated value NFTs:

  • In this maturing industry, NFT creators are less and less anonymous. Without it being a rule, an unidentified creator poses an additional risk.
  • As much as possible, it should be verified that the smart contract originating the NFT has been verified. While it’s not foolproof, verification badges exist on some markets, and even explorers like Etherscan (for the Ethereum network) have implemented it for certain types of assets.
  • In the case of collectibles, it is important to check the breadth of distribution of the collection. The OpenSea platform now indicates the number of unique holders within the same collection. Too much concentration in the hands of just one collector is generally a bad sign.

Finally, common sense must prevail. Even if the method is once again not perfect, verifying the history of an artist or a team online is important and it should always be borne in mind that NFTs likely to achieve a high valuation are not the most frequent: according to the Nansen study, of the 29,000 collections distributed on Ethereum between 1um January and June 30, 2022, two-thirds collected less than 5 ether.

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