What Are Rug Pulls in Crypto and How Can You Spot Them?

Rug pulls are some of the most common scams in crypto. According to a statistic found on Comparitech, 2022 alone recorded 346 cryptocurrency rug pulls. Shockingly, even some projects that weren't originally rugs can eventually become one. Unfortunately, experienced and new crypto traders and investors aren't immune to rugs.

But there are still some obvious rug red flags that can help you differentiate between serious projects and empty shouts.

What are rugs? And how can you tell if a crypto project is a potential rug?

What Is a Rug Pull in Crypto?

A rug pull is a crypto scam where the project developers dump it and make away with investors' funds mid or post-execution---after investors must've put in their resources. The project then loses value over time and becomes worthless.

A deliberate investment pump typically precedes a crypto rug pull to increase the project value. A rug pull is often tricky to spot, especially if it's the slow type, as it's often real.

Perpetrators might also resort to running massive marketing campaigns and making empty promises. They might even go as far as creating a composed and catchy whitepaper to show investors that they mean business—when, in fact, they only aim to scam them.

Examples of Crypto Coins and NFTs Rugs

An example of a crypto rug is the OneCoin Ponzi that ran between 2014 and 2017—before it later became clear to investors that they'd been rugged. The founder of this project promised investors heaven on earth until it became clear that its purported token, OneCoin, had no value and couldn't be traded outside of the company's website. But it was too late for many, as its founder, Dr. Ruja Ignatova, had scammed millions of investors to the tune of $4 billion.

According to a news release on CoinTelegraph on December 19, 2022, the OneCoin co-founder, Karl Sebastian Greenwood, later pleaded guilty to the scam on December 16, 2022.

We've also seen many NFT projects over time. For example, the Solana-based NFT, Baller Ape Club, a 5000 PFP collection, sold out for 2 Sol each on October 1, 2021. Hardly had investors minted did the project's website, including its social accounts, vanish into thin air, leaving buyers with a shitty project altogether.

The Evolved Apes play-to-earn NFT game is another rug pull of the Ethereum network in 2021. According to a report on the Vice website, a week after mint, the project developer rug-pulled 798 Eth without delivering their promise to investors. Of course, as seen in most rugs, the project's founder varnished along with its social account and official website, and the rest is history.

How to Identify a Potential Crypto Rug

While spotting rugs can be a hard nut to crack, as you can spot fake NFT projects, there are also pointers to rug pulls.

1. Poor or Lack of Clear Auditing

Like any established company, a crypto project with poor internal and external auditing can't trace its financial tracks. And it's bound to fail.

For example, one of the causes of the FTX crash was that the company's reserve couldn't match its liabilities. A breakdown of Caroline Ellison, Alamada Research CEO's interview, featured in a tweet, is that FTX lacked proper auditing and was careless with customers' funds.

Internal and external auditing establishes transparency. No matter how promising a project is, it's likely a scam if it lacks excellent auditing. So watch out for a project's financial transparency before investing in it. A crypto project without clarity on its funding source and financial history is likely a scam.

2. No Clarity on Liquidity Pool

Liquidity is the ability of a company to convert its assets into liquid cash. A crypto company's liquidity pool is a collection of its liquid tokens locked in a decentralized financial system.

Look out for a liquidity declaration before investing in a crypto startup. Any crypto project that doesn't have a detailed breakdown of its liquidity pool is a potential scam.

If you discover, after researching, that a crypto project doesn't have any liquidity locked in smart contracts, take to your heels. It's likely a rug.

3. Watch Out for Unrealistic Pumps

A pump is a situation where a project rapidly increases in value. However, while some old projects behave this way on some good days, an unusually sudden pump in a new crypto project is a red flag.

Rapid pumps of evolving projects often result in instant dumps. Pump and dumps aren't news to many in the crypto world; it's probably one of the most common petty crypto scams.

It's not unusual to see many potentially rugged startups desperately use a pump scheme to draw investors into a potential rug. Study the charts and do your research before rushing to invest. Ruggers are real!

4. High Orders to Token Holders

The orders for a new token or NFT might follow an evenly or unevenly low to high rate since the project is fresh and only breaking into the market. This pointer is obvious.

However, it's hard for a startup crypto project to have higher orders than its token holders since it's new. If you spot such an activity in a projects, it's a huge warning.

5. A Promise of High Investment Yields

Promises can be attractive but still too good to be true. Unrealistic promises are typical of most crypto Ponzi schemes. Watch out for these!

While you might make money from crypto, it's not a get-rich-quickly scheme. Most investors agree that it takes time and plenty of deliberate efforts to start getting returns on investment.

For instance, a new crypto project asking you to stake your money for a 100% reward sounds like Ponzi.

6. Anonymous Founders

Even Frank of Degods NFT doxxed himself. If you find it hard to trace a project's developers or identify who they are, that's a huge red flag.

Additionally, a crypto project should be able to detail its organizational structure, including those in charge of each unit of its operations. While rugs can also exhibit this attribute, a clear organizational structure sometimes shows where the crypto project is heading.

With that said, you might also want to consider other pointers with this before concluding the validity of a project.

7. Little to no Innovations

According to data available on Statista, there are 9310 cryptocurrencies worldwide as of November 2022.

So innovation is the sole of evolving crypto projects considering the influx of projects into the crypto market. A crypto project with dry innovative actions is a turn-off. You might want to avoid it.

However, while innovations can woo you into investing in a crypto startup, watch out for unrealistic perks and promises. Ensure you do your research by reading the project's roadmap before investing.

Although it might have innovative promises, a new crypto project that doesn't have clear objectives for achieving its proposed aims is a huge red flag.

Do Your Research: Don't Get Rugged

The decentralized nature of the crypto world exposes investors to many scams. And rug pulls are one of the most common cryptocurrency scams. Many people become victims since it's often overly pretentiously deceptive. However, the red flags mentioned in this article are excellent tips for identifying potential rugs before investing naively.

While we've mentioned these red flags, ensure you DYOR (do your research) before buying that NFT or investing in that coin. Remember, avoid getting rugged!