Effective Market Hypothesis
I suggest to get acquainted with the hypothesis of an effective market. In short, according to this theory, all information is already included in the price. If any news comes out, then trading on its basis makes no sense -it is already reflected in quotations. This is called «market information effectiveness». It can occur only under four conditions:
• All market participants can receive information at the same time.
• All market participants act rationally, relying on a desire to get profit.
• There are no any factors that could prevent to make deals for certain market participants.
• Deals, which can be made by one person, cannot affect pricing.
Unfortunately, not all markets can be hypothesized, but to cryptomarket – at all. In general, there are three degrees of market efficiency:
Not one of the above-mentioned conditions is met on the cryptocurrency market.
• Participants receive information at different times (there are insiders).
• Not all market participants act rationally (otherwise, who would buy Bitcoin for $ 20k?)
• There are some factors that make it difficult at some point to make trading operations (for example, the technical work of exchanges).
• According to various experts, there are people who have a huge amount of bitcoins and they are able to influence pricing. For example, crypto expert Nicholas Merten thinks so.
Therefore, we can rightly conclude that the cryptocurrency market is highly manipulative.
However, manipulations can occur not only in the form of price changes, but also in other areas. Within the framework of the article, we propose to consider one of the types of manipulations, namely, the artificial change in trading volumes on cryptocurrency exchanges.
How do exchanges manipulate trading volumes?
Newcomers to the cryptocurrency market often rely on the trading volume, when choosing a trading platform, because this is an indicator of the high liquidity and popularity of the exchange. Is that really so? Many newcomers have never heard of such terms as spoofing, flushing, leering, but such manipulations are quite common on the cryptomarket.
By the way, one of the reasons that many countries’ regulators (including SEC) are wary of this industry is manipulation. How bad is it? Let’s try to answer this question.
What types of manipulations are there?
They can all be divided into several types:
– Manipulations based on bidding.
– Manipulations of information and financial indicators.
– Manipulations based on information.
– Manipulations based on actions.
Since in the framework of this article we consider the manipulation of trading volumes, we are accordingly interested in manipulations based on trading.
Wash trades – transfer of an asset without changing the owner. For example, if I create two accounts on the exchange and sell bitcoins from one to another at a fixed price. I don`t suffer any losses and make no profit, but this creates the volume of trading and the impression of increased liquidity.
Matched orders has a similar pattern. Orders for the purchase and sale are introduced at the same time at the same price, but by different persons. Such accounts are called «puppets». It is practiced on several exchanges at once, which makes it harder to detect.
Spoofing / painting the tape. The manipulator puts out a large number of applications for purchase/sale, but then immediately removes them as soon as there is a person who wants to execute them. This is done primarily to collect information on supply/demand, as well as to attract the attention of market participants and artificially create a favorable impression of trading activity.
Flashing. An analogue of spoofing, only an order is removed earlier, without waiting for the appearance of a person who wants to execute it. Practiced to create a false impression of actual market prices.
Layering – submitting a large number of applications at various levels with the aim of their subsequent cancellation in order to influence the quotations and liquidity of the instrument.
Which of these apply to the cryptocurrency market?
In January 2018, researchers from Tel Aviv University and the American University of Tulsa confirmed that on an already discontinued exchange Mt. Gox, Willy and Markus trading bots carried out frauds. In short, by creating fictitious transactions, they raised the price from $ 150 to $ 1000.
In August 2017, blogger with the nickname Bitfinex’ed accused the Bitfinex exchange allowing its engine to make fictitious transactions by attaching the corresponding video. The exchange allowed placing a sell order and then a similar buy and trade engine compared them.
Bitfinex’ed went further and analyzed the Coinbase and GDAX exchanges. As a result, it discovered an abnormal activity that was provoked by the Spoofy bot (video).
Is it worth believing to CoinMarketCap?
Researchers of the Blockchain Transparency Institute (BTI) conducted an analysis and found out that more than 70 exchanges out of the first 100 exaggerate trading volumes through wash trading. Data for last summer:
Actual information is here.
As we see in the picture, only three exchanges from the top 25 (Binance, Bitfinex and Japanese Liquid) have real indicators. The rest use manipulations to overestimate trading volume.
Trader Sylvian Rybs conducted his own investigation and found out that more than 90% of the trading volume was fictitious.
He tried to understand how efficiently exchanges absorb cryptocurrency sales for $ 50,000 and how such an order affects the price. As a result, he discovered significant «slippages» on fairly liquid (according to CoinMarketCap) exchanges:
As a result, Rybs concluded that there was no daily trading volume of $ 3 billion.
The next time, if you will hear from «crypto experts» that «market capitalization has grown by $ 20 billion, which means that someone has brought $ 20 billion into this industry» remember Rybs’ study. $ 50.000 is enough to significantly change quotations and, accordingly, capitalization.
In last October, the popular journal WSJ wrote that, according to many experts, there are a large number of trading bots on the market that form cryptocurrency rates. For example, there is a bot Quatloo Trader, which is engaged in spoofing.
Such bots can play one of the key roles in Pump & Dump (P&D) schemes, forcing the crowd to buy an asset at its peak and suffer huge losses.
The development of the cryptocurrency market entails the arrival of new people and, as a result, the interest of regulators. In October last year, the New York State Attorney General’s Office conducted its own research and found out that cryptocurrency exchanges are vulnerable to market manipulation and don`t practice standard protection methods that are universally implemented in traditional markets.
However, all of the above-mentioned studies were conducted last year. Has the situation changed somehow? No. In February, CrytpoIntegrity analyzed 11 exchanges and made a conclusion that 86% of trades were created artificially by wash trading.
According to CrytpoIntegrity data, Coinbase Pro provides the best performance, where the share of fake volumes is about 1%:
According to The TIE, 90% of trading volumes on exchanges are fictitious. The real volume was $ 2.1 billion of the declared $ 15.9 billion.
The NeonBlocks team has provided a tool to evaluate the purity of the data provided. The result is following:
Only Binance has adequate indicators.
NeonBlocks researchers concluded that more than 90% of the trading volumes are fakes.
Trading company FTX Global conducted a research and found out that 68.6% of the trading volume that CoinMarketCap provides was falsified. This indicator is significantly lower than that provided by the Blockchain Transparency Institute (BTI) group, according to which trading volumes were fabricated by 95%.
What conclusion can we make?
Manipulation of trading volumes is actively promoted, despite on attempts to combat this phenomenon.
Many platforms are trying to eradicate manipulation, but it is worthwhile to understand that this is not beneficial for everyone.
• Firstly, increased trading volumes attract new participants. The reasons for this phenomenon we found out at the beginning of the article.
• Secondly, increased trading volumes allow taking more money for listing coins and conducting IEO.
Despite on this, the struggle is really being waged. For example, Poloniex implemented the Cloud Markets Surveillance tool, developed by Nice Actimize, an Israeli company. After that, the indicator of trading volume fell sharply.
At the end of last year, Bitstamp integrated the Irisium solution and this showed result, since according to various analytical groups its data is close to real.
Gemini entered into partnership with Nasdaq and introduced the SMARTS Market Surveillance tool. NeonBlocks data indicates healthy exchange activity, which is comparable to Poloniex.
Thus, we can make a conclusion that the fight against the manipulation of trading volumes is possible only if the exchange wishes about it, but the tools for this have long existed and they are used in traditional markets. In addition, if falsification of data is exist, it means that the site management is highly likely involved in this, because it is primarily financially beneficial.
Также стоит отметить, что зачастую биржи, предоставляющие реальные данные и пытающиеся бороться с манипуляциями, находятся внизу списка CoinMarketCap.
It is should be noted, that often exchanges that provide real data and try to deal with manipulation are at the bottom of the CoinMarketCap list.
By the way, the observer of exchanges and cryptocurrencies is also trying to deal with fictitious trading volumes. In May, the service formed the Data Accountability and Transparency Alliance (DATA), which includes Binance, Bittrex, OKEx, Huobi, Liquid, Upbit, KuCoin, HitBTC, Gate.io, OceanEx and Bitfinex. The goal of the Alliance is to create a transparent market.
In addition, the service said that all exchanges located in the browser will be required to provide their trading data and order book within 45 days. In June, it became known that 70% of exchanges complied with the requirements, while the rest will be displayed at the bottom of the list.
CoinMarketCap wants to tighten requirements now. Let’s see how events will develop further.