What is a Rug Pull?

With the boom of DeFi, NFTs, and the steadily growing Web3 sector, scammers also profiting from the hype. Many of the victims are blinded by the steep success of the investments because it is not uncommon for a rug pull to take place when a price rally is in full swing and investors are in a state of euphoria.

In this article, we will discuss in more detail what a rug pull is and how this particular form of crypto scam presents itself, as well as what investors can do to protect themselves. Provided you have been a victim of a rug pull, we will show you ways to fight back and get your money back.

What is a Rug Pull?

The term rug pull is an umbrella term used to describe several scams that are typical for the crypto market. The carpet is pulled out from under the feet of the defrauded investors, as the name already suggests.

What the various scams have in common is that the fraudsters try to collect as much money as possible from investors. These investments are made in the form of cryptocurrencies and converted by scammers into euros, dollars, or other currencies as quickly as possible. Once they are done, the scammers disappear and the investors are left behind with the financial damage. The fact that many rug pulls take place in the DeFi sector makes it easier for the perpetrators to act.

By using smart contracts, they can act as anonymous developers known only by a pseudonym. Addresses, contact details, or details of company addresses are usually not available. Only in a few cases do scammers dare to reveal information about themselves. Smart contracts also allow the perpetrators to build backdoors into the code that are not recognizable to the layman. This way, they can easily withdraw deposited cryptos at any time without anybody being able to stop them.

How does a rug pull work?

While a consistent approach can be observed in various cases, this type of scam nevertheless takes different forms.

The liquidity pool rug pull

Providing liquidity in a DeFi protocol is a relevant and often lucrative use case for decentralized financial applications. Decentralized exchanges, in particular, build on this. Investors receive an ROI in return, based on demand and supply, and quite often subsidized by diluting the supply of the protocol’s native token.

In a rug pull involving a liquidity pool, scammers offer a very high incentive to deposit crypto into the protocol. These returns are above-average market rates. At the same time, they build a backdoor into the protocol. If the value of the liquidity pool reaches a lucrative threshold for the scammers, they withdraw the liquidity.

Sell order blocking

In a rug pull involving a liquidity pool, scammers offer a very high incentive to deposit crypto into the protocol. These returns are above-average market rates. At the same time, they build a backdoor into the protocol. If the value of the liquidity pool reaches a lucrative threshold for the scammers, they withdraw the liquidity.

Investors can buy and hold the worthless token, but can no longer sell it. The token supply is accordingly controlled by the scammers and thus they are the only sellers on the market who can profit from it.

Pump and Dumps

A pump and dump is a method of artificially inflating the price of a penny stock or crypto asset. Unsuspecting investors who jump on the bandwagon end up buying cryptos from scammers, who usually control a significant portion of the tokens. This makes it extremely easy for them to push the price in one direction or another.

Although this is not a rug pull in the classic sense, the scammers use very similar mechanisms on social media. They use botnets to create the illusion that there is high demand. If investors buy the overpriced tokens, the price falls a short time later and collapses completely.

Is a rug pull illegal?

The answer here is clearly yes. A rug pull constitutes a crime for the sole reason that the deception of investors and the accompanying enrichment of the perpetrators are in the foreground. However, which offenses are met in individual cases can vary. For example, a built-in backdoor is to be evaluated differently than a pump and dump. The latter is still most likely to be in a gray area because it primarily involves market manipulation and not fraud in the true sense of the word.

This legal classification plays a particularly important role for the victims of a rug pull, because their claims against the perpetrators, but also against exchanges and service providers who were used by them, are based on it.

How can you spot a rug pull?

Several criteria can be identified that always appear in this area. However, it is important to keep in mind that some warning signs may also apply to legitimate investments. This is primarily because experimental technologies and applications are used in the DeFi sector. It is very difficult to read an unsteady market environment. Here are some tips on how to navigate it better:

• Read the whitepaper: Every serious crypto project has a whitepaper in which technical details are explained. It also defines the goals and strategies that are to be achieved with the technology. This is often preceded by an analysis of a specific problem that is to be solved with blockchain technology. Scammers either copy whitepapers from other projects, write particularly bad ones, or fail to deliver any at all.
• Check for audits: DeFi applications that are self-respecting have themselves audited by specialized providers. This is to increase security and represents a certain quality standard. When audits are performed, attention should be paid to who performed them and what the results were.
• Anonymous developers: Many developers act anonymously in the crypto scene. Even Satoshi Nakamoto, the inventor of Bitcoin, is still unknown today. Nevertheless, modern crypto projects are predominantly driven by companies or foundations. These are run transparently. Scammers, on the other hand, like to remain anonymous.
• Social media bots: Scams automate their presence on social media and artificially drive up engagement with bots. Likes, follows, and retweets should never be a measure of whether a project is legitimate.
• Price action: Market manipulation is usually reflected in price action. If a completely unknown token suddenly increases in value many times over, then caution is advised.

How can to protect yourself from a rug pull?

Effective protection can be established through healthy caution and some measures. Some help to avoid a rug pull, while others simply keep losses to a minimum:

• Use established dApps: Unknown projects always carry higher risks, even when they are not outright fraud. The largest and most important DeFi apps already offer a lot of attractive opportunities to invest and at least carry no risk of fraud, albeit the usual market risks for the investment do apply.
• Beware of high yields: If a liquidity pool offers returns of several thousand percent, something is fishy. The largest established projects have billions available and pay much lower returns. Therefore, they should be used as a guide to assess what market rates are plausible.
• Test purchases: It is best to take advantage of the opportunity to buy small amounts of unknown tokens. Preferably directly with a separate wallet. This way, one can ensure that the tokens can also be sold again and are not subject to any other restrictions.
• DYOR: The acronym stands for "do your own research". Accordingly, one should obtain sufficient information about each crypto project. Established sources are CoinMarketCap or Coingecko as well as relevant blogs and magazines.

I have become a victim of a rug pull; how do I get my money back?

If you have been a victim of a rug pull, the first thing to do is to back up all available data. Be sure to make backup copies of wallets and note down all relevant transaction data if possible. If you need help with these steps, we will be happy to assist you. Securing traces and proper documentation of crypto transactions is necessary in addition to tracking the perpetrators through blockchain forensics, and to be able to clarify claims. Crypto-Tracing works with lawyers and investigates so that you have a chance to get your money back. Please feel free to reach out to us by using our contact form and share the details of your case. We will contact you promptly and provide an initial assessment of how best to proceed.

FAQ about Rug Pulls