What is a Rug Pull?
In this article, we will take you through the definition of a rug pull and show you five signs to look out for to avoid being scammed by a rug pull.
Derived from the idiom "pull the rug out", a rug pull in the crypto world refers to the development team suddenly withdrawing all liquidity and support from their newly launched project, leaving unsuspecting investors with nothing but a handful of worthless tokens. Rug pulls are most commonly seen in the DeFi (decentralised finance) world and many investors, novice and seasoned alike, have fallen victim to this scam.
A typical rug pull starts with creating and listing a new token on decentralised exchanges (DEXs). This token will be paired with valuable assets, such as ETH or AVAX, and put into a liquidity pool, sometimes with unrealistic return promises. The developers may also hire influencers to further create hype around this token. Once they have access to their liquidity, they will yank all valuable assets in mere seconds and run off with their ill-gotten gains.
Other rug pulls may be executed after an Initial DEX Offerings (IDOs). The developers will dump-sell all their tokens at a high price in one fell swoop, sending the token price to zero in an instant. They may even leave backdoors in their contract such that no one, except a selected few, is allowed to sell their tokens, as you may have heard in the notorious Squid Game token scam.
Signs of a Potential Rug Pull
Like everything, a rug pull has its signs:
Little to No Liquidity Lockup
In the crypto world, many project developers choose to lock up their own tokens or liquidity for an extended period of time as a guarantee and token (pun intended) of goodwill, displaying their willingness to continue developing and supporting the project. With little to no lock-up time, however, there is little to nothing that stops the developers from running away with all liquidity or dump-selling all their tokens, scamming all their investors with a rug pull. If you see no such guarantee or insurance of any kind, put your faith in Murphy's Law instead.
Unusual Social Media Hype
Good projects speak for themselves. Fishy projects hire an array of influencers who were never involved in their projects (and may have little knowledge in crypto) for promotion. These influencers will tell their millions of fans about this fancy new project they just found out about, promising 'to the moon' potential or unrealistic returns, creating huge FOMO on this project. Most of the time, they may have never looked into the technical details or even read the whitepaper. No one can be an expert in every field and you should keep your eyes peeled when people start aggressively promoting something they clearly know little about.
Very Low TVL
Cryptocurrencies are volatile. You must have known this by now. Many projects will deposit a huge amount of liquidity in their DeFi protocols, known as total value locked (TVL), to keep their token price steady. High TVL is not only a demonstration of strength, but also a protection against fluctuations and potential for higher (but reasonable) yields. Low TVL, on the other hand, makes the protocol susceptible to all sorts of manipulation. Their token price can easily skyrocket and new investors/soon-to-be-victims will flock in. Be on the lookout for a rug pull with low TVL projects. There is no such thing as a free moon ride, after all.
Developers love telling people what they do and how they do it (the hard way) in their whitepapers. That's why most whitepapers are so technical and even unfriendly to beginners. But if a whitepaper hardly goes into any technical detail but is laden with empty promises and ambiguous statements, or is generously throwing jargons but lacks substance, something may have already gone awry. Also, a whitepaper that is dangerously similar to other whitepapers is a huge red flag. Plagiarism is a dealbreaker, wherever you are.
Cryptocurrency's anonymity is one of its best perks if achieved in its full glory. Most cryptocurrency networks, however, are only semi-anonymous and offer their own block explorers to look up transactions and wallet balances. A whale is a wallet address with a huge balance of crypto. If a considerable proportion of new tokens are held in a handful of wallet addresses, these addresses can easily dump all their tokens in exchange for everyone's hard-earned assets. You may never know who's behind these addresses, but you should know what people with malicious intent can do with a lot of tokens.
How to Avoid a Rug Pull
Do your own research (DYOR). Never trust someone just because they sound persuasive.
Be vigilant. Always play safe when you smell something fishy.
Ask technical (even uncomfortable) questions. If the developers cannot explain their projects in layman's terms with confidence, why should you trust them with your hard-earned assets?
Choose trusted centralised exchanges (CEXs). CEXs usually require extensive vetting and audit processes before listing a coin.
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