NFT Project Red Flags
How to do your own research (DYOR) and identify a potential NFT scam.
If you’ve ever joined an NFT project’s Discord server before, you’ve probably experienced some form of crypto scam. While some may be easy to spot, some strategies have made it more difficult to identify whether a project is an NFT scam.
NFT scams involve fraudulent activities centered around the popularity of non-fungible tokens to extort digital assets from their victims. As with any investment, there is always some level of risk involved that each investor must consider. This article will explore five NFT red flags and how you can protect yourself from fraudulent schemes.
Rug Pulls
A rug pull scam happens when a developer promotes a project, collects funds from investors, and then deserts the project. Chainanalysis, a cryptocurrency compliance firm, reported that rug pulls are standard in DeFi projects, with the $2.8B in funds already being stolen from investors in 2021 alone.
A classic example of a rug pull is evident in the Thodex case, a Turkish crypto exchange where the founders disappeared with approximately $2B of the client funds making it the biggest rug pull scam to date. Other recent examples of DeFi protocols that have undergonerug pulls include Meerkat Finance, AnubisDAO, Compounder Finance, and Uranium Finance.
Rug pulls often look like genuine investments before turning out to be fraudulent. Here are some things that you can do to protect yourself:
- Research developers to verify the team’s credibility behind the new projects;
- Check if the currency is liquidity-locked. The project should be secured via time-locked smart contracts;
- Check if the project has undergone external audits by reputable third parties to confirm that no malicious code exists.
Wash Trading
Wash trading is a practice in which the buyer and the seller are the same people (or company) that manipulate a market for a given asset to artificially inflate its value. Wash trading scams succeed due to the absence of an ID verification system on crypto wallets. Developers can create multiple accounts that enable them to place a sell order and a buy order for NFTs simultaneously. In the CryptoPunk 9998 case, the sellers sold the NFT to themselves for half a billion dollars. This practice increased the trading volume, making the digital asset appear more desirable in the eyes of investors.
Investors are encouraged to conduct research and use tools like SolScan to show data and activity on wallets that have previously owned an NFT.
Watch out for Imposter Admins
Telegram, Twitter, and Discord have become some of the most popular places for NFT projects to communicate with and update their communities. These community pages can offer customer service support, and educational content serving as a hub for user engagement. Scammers often target investors by creating fake admin accounts using the same picture and name as the site admin. The operators of these malevolent social media accounts will promote fake giveaways and offer free tokens from a collection that is poised to ‘go to the moon’. Unfortunately, this clouds the judgment of novice investors who later realize that the scammer has gained dominion over their account and drained their wallet of the highest valued NFT.
To protect yourself from imposter scams, the US Securities and Exchange (SEC) has advised investors to avoid NFT and cryptocurrency projects that promise a high return on investment, accounts with skyrocketing values, and websites with fake testimonials.
Pump and Dump Scams
In pump and dump scams, individuals spread misleading information to create a demand for an NFT, which “pumps” the token’s value followed by a “dump,” in which the token is sold to a new wallet that the fraudster controls. The NFTs value then drops to zero, and the bad actor disappears with the funds leaving the investor with no assets.
To spot a red flag in pump and dump schemes, look to research the viability of the promises made about the project on social media, newsletters, online advertisements, and internet forums.
Phishing Scams
Phishing scams are far less elaborate and have been used more broadly in all areas of tech. These attacks are typically targeted toward new adopters since they are more likely to succeed among less tech-savvy users. The fraud steals private account information by establishing fake cloned websites. This scam is common in marketplaces where fraudulent replicas of platforms such as OpenSea are created to deceive investors. Some of these sites have hired imposters to collect a user’s data. If successful, the fraudster will access a wallet’s private key, hack into the account and deplete the NFT collections.
To protect yourself, always ensure that the site is secure and the address starts with HTTPS has a lock icon appearing in the address bar. Second, make sure that the domain name is exactly as it should be and double-check the web address. Lastly, never connect your wallet to a service you haven’t researched.
All investments involve inherent risk, and even the most experienced investor is vulnerable to fraud. If you are still unsure about spotting an NFT red flag, then look for these noticeable signs:
- Promises that you will make money in a short time;
- Massive payouts with guaranteed returns;
- Offer free money upfront.
To protect yourself from NFT scams, implement a 2-factor authentication protocol on all of your accounts, keep your passwords protected, and use a burner wallet.
