Explanation of Rug Pull: The Hidden Dangers of the Crypto Assets World and How to Prevent Them

In recent years, the investment boom in Crypto Assets has swept the globe, but the accompanying fraudulent activities have also become increasingly rampant. Among them, rug pulls have become a common form of fraud. According to data, the losses caused by rug pull scams reached as high as $2.8 billion in 2021, accounting for 37% of the total revenue from Crypto Assets fraud that year.

In April 2023, the DeFi industry once again encountered a rug pull incident, with 32 projects involved, resulting in losses exceeding $6.2 million for investors. Among them, BNBChain was the most severely affected, with losses of about $4.5 million, accounting for over 73% of the total. Ethereum and Arbitrum ranked second and third, with losses of $1.05 million and $182,000 respectively.

Rug Pull Analysis

A Rug Pull is a type of Crypto Assets scam, typically manifested when project developers suddenly withdraw from the DEX liquidity pool, causing the coin price to plummet, or exploit centralized permissions and logical loopholes to abscond with investors' funds. This is a typical fraud method in the DeFi sector.

On April 26, 2023, the zkSync ecosystem DEX Merlin allegedly experienced a rug pull incident, resulting in a loss of approximately $1.82 million. Monitoring data shows that shortly after the launch of Merlin's three-day presale event, around $1.82 million worth of USDC, ETH, and other Crypto Assets were stolen from the protocol due to malicious developers exploiting a vulnerability to carry out the rug pull. The incident is still under investigation.

Main Types of Rug Pulls

Rug pull mainly includes three types: liquidity theft, limit sell orders, and dumping.

liquidity theft

This is the most common type of rug pull in the DeFi space. When the token creators withdraw all coins from the liquidity pool, it causes all the value injected by investors to go to zero. The liquidity pool is a key component of DeFi protocols, allowing users to trade Crypto Assets in a decentralized environment.

Restrict Sell Order

This is a relatively covert fraud scheme. Developers encode the tokens in a special way, making it so that only they can sell. Once retail investors buy enough new tokens, the developers dump their positions, leaving behind worthless tokens.

dumping

This refers to developers quickly selling off a large amount of tokens, leading to a sharp drop in coin prices, rendering the tokens held by other investors worthless. This behavior typically occurs after extensive promotion on social media and falls into a moral gray area.

Methods to Identify and Avoid Rug Pulls

Here are 6 possible signs of rug pull risk:

1. Unknown or anonymous development team
2. No liquidity lock
3. There are restrictions on sell orders
4. The price of limited token holders skyrockets
5. Suspicious High Returns
6. Lack of external audit

In addition, investors can take the following measures to reduce risk:

• Check if the project is open source and has undergone strict auditing.
• Check if there are security measures and contingency plans
• Confirm whether the project has permission to transfer user funds
• Check whether the project permissions are decentralized (, such as using multi-signature, time locks, etc. )
• Verify whether the token issuance is consistent with the white paper.

The Importance of Due Diligence

Conducting thorough project due diligence is key to ensuring investment security. Investors should:

• Be cautious of project hype and avoid FOMO mentality.
• Verify the background and track record of the project team
• Carefully study the project white paper, website, and other materials.
• Confirm whether the smart contract has undergone reliable third-party auditing.

Conclusion

Rug pulls have become a serious issue in the Crypto Assets space, causing massive losses. This article introduces the definition, types, and methods to identify and prevent rug pulls. Investors should remain vigilant, learn to recognize risk signals, and conduct thorough research before investing. At the same time, the entire industry needs to work together to prevent and combat fraudulent activities, maintaining the healthy development of the Crypto Assets ecosystem.