Even for avid crypto supporters, it’s possible to come across some alien terminology in the crypto space and wonder what it means. Without a doubt, “wash trading” is a common example of this, and you would certainly not be alone in asking “What could this possibly mean?”

Before we dive into the core of the topic at hand, it’s widely agreed that 2021 was a landmark year for the crypto ecosystem. Notably, there was a double-digit increase in the total number of cryptocurrency in circulation, exceeding 10,000, and NFTs were more prominent than ever.

Unfortunately, the negative press about the new crypto ecosystem was not as strong despite the increasing interest. A rising tide of fraud in investment has engulfed the crypto community.

Chainalysis is a research company that offers data-driven insights on crypto markets. It recently revealed that approximately $14 billion was stolen by crypto fraudsters in 2021.

NFTs were the surprise of 2021. Their market value surpassed $40 billion, a significant increase from their $350 million the previous year. NFTs faced some backlash, as well, because scammers also took advantage of growing interest.

Circling back to Chainalysis’ ‘2022 Crypto Crime Report’, a significant portion of criminal activity was associated with NFTs in 2021. Interestingly, wash trading — the art of artificially increasing the value of an NFT — and money laundering through the purchase of NFTs, happened to be the two most common activities related to NFTs scams.

From Chainalysis’ report, it can be seen that wash trading is becoming more prominent with each passing day. This is because very few are even aware that wash trading exists, what its consequences and how it effects everyday crypto enthusiasts. With that in mind, let’s get to the root of the problem by explaining what wash trading means.

Was Wash Trading Really All About?

Wash trading, which is also known as “round-tripping”, is described differently across various trading markets. It is often described as a manipulative way to trade financial instruments.

Washed trading in crypto markets is where a trader purchases and sells various financial assets/crypto assets. This manipulation strategy has the sole goal of misleading market participants. This ultimately influences an asset’s trading activities and price, but orchestrated in a way that makes it favorable to the manipulator.

NFTs are an example of an investor spending $1 million to buy a digital piece that has a clear value less than $200. It isn’t a problem to buy a digital item at such a high price, as it carries intrinsic worth. Here, the buyer plays the seller. This means that payment is indirectly returned to the buyer.

Unfortunately, this means that cybercriminals are able to misrepresent the real value of an item on the market. Moreover, other potential investors would end up acquiring the item themselves for a “false” value, and in some cases, will then not be able to resell it for tangible values.

So in other words, the major aim of wash trading is to increase a crypto asset’s trade volume by creating the illusion that the asset is worth more than its “actual” value. This is a bad idea for investors, and can have a negative impact on the overall market dynamics, particularly in the long-term.

A prominent instance of a wash trade in the crypto space took place in October 2021, when a piece of the ‘CryptoPunks’ collection – a Larva Labs NFT project – was sold at a faux price.

The project, titled “CryptoPunk 9998”, sold for 124,457 Ether (ETH), or the equivalent of $532 million USD at the time. It was remarkable that the ETH used in purchasing the NFT was given to the seller. However, it was returned to him to pay the loan originally used to buy the digital artwork.

Although the situation is a case for a quick loan, it also qualifies as NFT money laundering.

Round-Tripping VS. Wash Trading

You may be asking, “Is there any difference between wash trading and round-tripping?” Well, both technically mean the same thing, except that, while WT is carried out by an individual in a one-off event, round-tripping is carried out by an individual or two multiple times in a short trading duration.

Round-tripping is where two corporations agree to each sell security options to their own entities and to purchase it back at the exact same price to attract inflows from other entities.

Are Wash Trades Illegal?

Although wash trading may appear to be a “strategy” at first glance, the motive of the individuals involved, as well as the outcome of such transactions, reveals a manipulative undertone to the entire process.

A similar trade, for example, could be made in an everyday scenario where the investor purchases and sells tokens from one asset continuously and simultaneously. However, the definition of wash trades goes a step farther by considering the investor’s motive ⁠— to create a false sense of value, thereby misleading potential investors.

If the intention is found to be unsound, it can be considered illegal. Different jurisdictions have different rules. Not to mention that there is no legislation or classification of certain assets like NFTs, and crypto assets. It cannot therefore be stated with certainty that this practice is illegal.

Even though the crypto asset type is unclassified, many countries around the globe frown on any form of wash trading.

Bithub was a South Korean cryptocurrency exchange that faced intense criticism in 2018. It was alleged to have been involved in facilitating a number of fake wash trades, which were estimated at more than $250million in value. While it wasn’t revealed how the Korean government addressed the situation, the negative press alone suggests that dire consequences must have happened behind the scenes.

How to spot Wash Trading in NFTs

There are many ways you can recognize potential wash trades and avoid them. A deep knowledge of blockchain technology is highly advised, especially considering the fact that it requires blockchain analysis.

The blockchain networks keep track of trading activities. You can therefore see where funds have come from or go. NFTs are a type of NFT that keeps track of activity surrounding each item.

One can check the NFT trade history to see if the NFT was purchased from the same address. Sadly, this isn’t always a perfect way of spotting wash trading, especially when it is carried out by a group of people.

The best way not to be a victim to wash trading is to transact on and with trusted marketplaces or traders.

Wax Trade and the Emerging NFT Economy: The Impact of it

Wash trading has a negative impact on emerging crypto economies and can have undesirable ripple effects. One of the biggest problems is that wash trading may lead to a false perception about the overall value of a trade marketplace.

Bloomberg, for example, recently stated that fake trades dominate the bulk of NFT trade activity.

The report specifically revealed that most of the activities on ‘LooksRare’, an NFT marketplace, involve their users selling tokens between themselves in an attempt to earn more rewards in the form of coins. The report further equated what such users are doing on LooksRare to wash trading, alleging that the practice accounts for $18 billion, or 95% of the marketplace’s entire trade volume in 2021.

For a market that is worth nearly $20 billion, it is disconcerting to find out that approximately 95% of that trade volume consists of funds circulating from one user’s account to another, and is far from an organic trade volume.

Chainalysis reported that although this statistic only applies to LooksRare’s marketplace, it is applicable to all NFT markets. The NFT market has seen a steady increase in trade volume.

OpenSea is the biggest NFT marketplace worldwide, with $3.5 billion monthly trading volume. This indicates a bullish market trend.

To back up its claim, Chainalysis revealed that most of the attempts at wash trading didn’t generate nearly as much as expected from the effort put in.

Chainalysis states that in order to trade a wash, one must first sell 25 times from one account to another. With this information, it is clear that not everyone will be able to persevere with the whole process.

After analysing transactions from 262 sellers who could have been involved in wash-trading, the research company reached the above conclusion. The research firm found that only 110 out of 262 sellers earned more than $8million from wash trading, and others suffered losses exceeding $400,000 due to the misleading trade.

Chainalysis only analysed NFTs that were traded over the network. This suggests that other networks may have a different approach.

Increased awareness about wash trading can have a negative impact on investor perceptions in a market. It can also limit genuine investors’ participation, which in turn has negative effects on emerging markets.

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