Pump and Dump in the crypto market: signs, stages, and risks

Pump and Dump in cryptocurrencies: what it is

Cyclicality is a natural phenomenon in any financial market, including the cryptocurrency market: after the growth in the prices of assets, their decline or correction inevitably follows. However, these rises and falls can be either natural, driven by market factors, or artificial, resulting from manipulation by individual investors.

What is Pump and Dump?

Pump and Dump is a standard scheme for manipulating cryptocurrency prices. The scheme is called Pump and Dump because first the perpetrators "pump" the price of a cryptocurrency, and then, when the growth slows down or stops, they "dump" the target altcoin, causing its price to collapse.

The "pump and dump" scheme has become especially popular in the cryptocurrency space because it is still poorly regulated. In addition, most altcoins have low liquidity* (less than $100,000), which makes it possible to "pump" asset prices even without significant investments and risks.

* Liquidity is the degree of "turnover" of a financial asset on the market, that is, its ability to be quickly converted into money at a fair market price. It depends on trading volume, the number of buyers and sellers, and the difference between the buy and sell prices (the spread). An asset with high liquidity can be sold almost instantly without significant price loss. Low liquidity means there are few transactions, the market is small, and even small buy/sell trades can significantly move the price up or down, making such assets vulnerable to manipulation, including Pump-and-Dump schemes.

Note: The U.S. Securities and Exchange Commission (SEC) classifies "pump and dump" as a fraudulent scheme. In the crypto community, it is also commonly considered an investor scam.

How is Pump and Dump related to financial "bubbles," and how does it differ from them?

The "pump and dump" scheme can be compared to financial bubbles*, which "burst" as a result of rapid and prolonged price growth. Examples of the most famous bubbles are "tulip mania"* in the 17th century and the dot-coms* of the 2000s.

* A financial bubble is an economic phenomenon in which asset prices (stocks, commodities, real estate, etc.) rise significantly above their real, fundamental value for an extended period due to hype, speculation, and inflated expectations of market participants.

* Tulip mania is the first documented financial bubble in history, which arose in the Netherlands in the 1630s. Prices for rare tulip bulbs rose to speculative, economically unjustified levels and then collapsed sharply after demand fell. The rise and crash occurred without deliberate fraud and were the result of mass expectations and hype.

* Dot-coms (or the "dot-com bubble") is a financial bubble of the late 1990s–early 2000s associated with a sharp increase in investment in internet companies (.com). Shares of many firms were heavily overvalued despite the lack of a sustainable business model and profits.

However, the Pump and Dump scheme differs from a financial "bubble" because it is almost always created deliberately for fraud, and the price is artificially inflated. On the other hand, the tulip boom ended due to declining consumer interest, and the well-known dot-com bubble burst because of severe overvaluation of internet company stocks — both are natural phenomena in financial markets.

How does the Pump and Dump scheme work?

The classic Pump-and-Dump scheme involves three main stages: accumulation, price pumping (pump), and dumping (dump).

Stage 1: Accumulation

The first phase of "pump and dump" is also called "pre-buying". First, the organizers choose a little-known trading pair with low liquidity and trading activity so that other traders do not interfere with the implementation of their scheme.

If the asset fits all criteria, the organizers begin to carefully buy the altcoin so as not to cause a sharp price jump, accumulating the asset in their wallets for future sale to profit from the "pump and dump." The first phase can last several minutes, hours, or days, depending on the scale of the scam.

Stage 2: Pump

The second phase of Pump and Dump involves artificial price inflation — the actual "pump." The organizers of the "pump and dump" play on the well-known feeling of FOMO*: when users see how quickly the price is rising, they start buying the altcoin without thinking in order not to miss out on profits.

* FOMO (Fear of Missing Out) is a psychological effect in which a person makes impulsive investment decisions due to fear of missing potential profit. FOMO forces investors to ignore risks and analysis and spontaneously buy an asset "on emotions."

To increase the inflow of investors, the organizers of "pump and dump" may also resort to the following scenarios:

Spreading false information, such as new partnerships or listings on major exchanges;
Creating fake activity in chats with stories of investors who "managed to make money";
Coordinating purchases through several channels and closed groups to increase trading volume.

To promote the target token for the purpose of conducting Pump and Dump, organizers often use closed groups on Telegram and the Discord messenger, as well as the platforms X (formerly Twitter) and Reddit.

Stage 3: Dump

After the price of the target altcoin has jumped significantly and its growth has slowed down or stopped, the organizers "dump" all previously purchased tokens and take profits, leaving trusting investors with a depreciated useless asset (a shitcoin)*.

* Shitcoin (where shit means "trash" and coin means "coin") is a slang, negatively charged term used to describe a cryptocurrency or token with no real value, practical use, or sustainable economic model.

After that, Pump-and-Dump organizers may change their communication channels with users and start over. Some scammers repeatedly carry out the "pump and dump" scheme as long as trusting users are willing to participate.

How to recognize a "pump and dump" scheme: typical signs

Low liquidity and trading activity, along with low capitalization

These indicators by themselves suggest that the altcoin is not of interest to investors. However, it is also essential to consider the period of the asset's existence, since many well-known tokens today, such as Shiba Inu (SHIB) and Pepe (PEPE), also initially had low liquidity.

However, if a token has existed for several months or years but shows no positive dynamics, it can easily become a target of "pump and dump" organizers.

Sharp growth without fundamental reasons

If a user sees that, without objective reasons, a low-liquidity, almost "dead" token in terms of activity demonstrates multiple price increases and trading volume increases, this is a classic sign of a "pump and dump" scheme.

Clear signs of "pre-buying."

If a token is almost inactive, it is easy to notice even small trading volumes before the price starts to rise rapidly. This will be a clear sign of a pump-and-dump scheme.

Suspicious activity on social media

Additional signs of "pump and dump" may include:

Artificial inflation of activity (followers, likes, and views);
Deletion of comments and messages in chats, as well as unjustified bans in the group.
Presence of user complaints (if they have not yet been deleted).

Also, to create the illusion of crypto community activity and maintain a positive atmosphere in chats, organizers often resort to bots and fake accounts, which emphasize the profitability of the target token and frequently urge people to buy it.

Lack of information about the token and its founders

If little is known about the creators' plans, tokenomics, technical aspects, and the project team, this may signal the preparation of a pump-and-dump scheme. Such projects should be avoided due to uncertainty and excessive risk.

If, during the analysis of a crypto project, it is not possible to clearly identify signs of "pump and dump," then only a small amount should be allocated for investment — an amount that one would not mind losing.