EXPLAINER: Rug pull scam in web3 and how to avoid it

In the largely unregulated expanse of web3, a decentralised internet ecosystem built on blockchain technology, which digital assets like cryptocurrencies are part of, a sinister phenomenon termed rug pulling has emerged. 

This scam has already bilked unsuspecting investors out of millions of naira. But what exactly is rug pulling, and how do scammers execute these elaborate heists? 

This explainer will explore the inner workings of rug pulling and its most common forms. Understanding this scam will better equip you to protect yourself from its devastating consequences.

WHAT DOES RUG PULLING MEAN?

Otherwise known as a potential pump-and-dump, rug pulling is when someone artificially inflates the price of an asset through false or misleading “positive” information.

In cryptocurrency, rug pulling refers to a type of scam where a developer or team creates a cryptocurrency or token, promotes it to investors, and then suddenly abandons the project, taking the invested funds with them. It largely takes a well-thought-out plan on the part of the developers and team involved to create hype around a new cryptocurrency or token through social media like X and Telegram.

The hype usually comes with promises of unusually high returns or guaranteed profits to lure investors, requiring investors to send cryptocurrency or tokens to a specific wallet address. The promoters exploit human greed and the fear of missing out (FOMO).

Once enough capital is raised, the developers execute the rug pull. One way to do this is to include a token dump, where they might sell off their holdings in the token, leading to the price crashing. The promoters could abandon the project and shut down communication channels like social media, project websites, and community servers, leaving investors with no way to reach out or recover their investments.

The aftermath is that investors are usually left with worthless tokens or unable to liquidate their holdings. This not only leads to financial losses but can also erode trust in future projects.

POPULAR EXAMPLES OF RUG PULLING IN CRYPTOCURRENCIES

To execute a successful rug pull, the developers and the team behind the token in question normally invest in aggressive marketing, and one way this is achieved is through having a popular face to promote the project.

Celebrities like Davido, a Nigerian musician; Floyd Mayweather, a former professional boxer; and Shaquille O’Neal, an ex-NBA basketballer, have reportedly been the face of one rug pull or another.

In 2021, Davido promoted RapDoge, a memecoin, on his social media platforms. This promotion, also known as “shilling”, generated significant buzz and excitement among his followers.

Davido’s endorsement of RapDoge was seen as a way to encourage his fans to invest in cryptocurrency. However, after promoting the coin, Davido allegedly sold his coins, potentially at a profit. This sale may have contributed to a surge in sell orders, causing the price of RapDoge to drop.

Davido’s move was reportedly worth around $300,000. Many of Davido’s followers who had invested in RapDoge based on his endorsement may have seen the value of their investments decline significantly. Some may have even lost money, depending on when they bought in and how much they invested.

The incident sparked widespread criticism and controversy on social media, with many people accusing Davido of pumping and dumping the meme coin and taking advantage of his followers. 

On his part, Floyd Mayweather, the US boxer, has reportedly been involved in several questionable cryptocurrency and non-fungible token (NFT) projects. 

One notable example is the 2017 Centra ICO, which was later revealed to be a scam. Mayweather promoted the project on his social media channels, encouraging his followers to invest.

In 2021, Mayweather promoted the EMAX coin, and in 2022, he was involved in several NFT projects, including Bored Bunny NFTs, Floyd NFT Mayweather, Floyd’s World, and Boreholes BAD Bunny. 

All of these projects ultimately lost value and went to zero, leading to a loss of millions of dollars by his fans who invested in the projects.

Meanwhile, Mayweather’s involvement in these projects has not gone unnoticed by regulatory bodies. In 2018, the Securities and Exchange Commission (SEC) sued him for promoting the Centra ICO without disclosing that he was being paid to do so. 

He eventually settled the lawsuit by allegedly paying $614,000 in fines.

The former NBA star, Shaquille O’Neal, entered the world of NFTs by co-founding Astrals, the Solana-based NFT collection. The project generated significant buzz due to Shaq’s involvement.

However, things took a turn for the worse when FTX, a major cryptocurrency exchange in the US and backer of the project, collapsed. In the aftermath, Shaq reportedly abandoned the Astrals project, leaving many investors and collectors feeling betrayed. The fallout from Shaq’s alleged abandonment of the Astrals project led to a lawsuit against him in September 2023. 

OTHER EXAMPLES INCLUDE:

Squid Game token: In 2021, a cryptocurrency called Squid Game token was created, capitalising on the popularity of the Netflix show ‘Squid Game’. The token’s price surged, but the developers suddenly disappeared with an estimated $3.3 million in investor funds.

OneCoin: OneCoin was a cryptocurrency marketed as a rival to bitcoin. However, it was later revealed to be a Ponzi scheme, with Ruja Ignatova, the project’s founder, disappearing with an estimated $4 billion in investor funds. The Times described the scheme as one of the biggest scams in history.

In 2022, the FBI added Ignatova to its list of ten most wanted fugitives and placed a $5 million bounty on her head.

MEVBET: Scammers have also leveraged the hype around artificial intelligence to create AI-themed meme coins.

Investors are lured in by the promise of cutting-edge technology combined with the speculative nature of meme coins, only to find themselves being victims of these scams.

An example of this is MEVBET, a meme coin on the Solana blockchain involved in a rug pull that saw its market capitalisation drop from $2 million to just $20,000 in a single transaction.

MEVBET, as a project, reportedly leveraged AI through the use of trading bots to extract value from blockchain transactions.

Aside from this smokescreen, the promoters only used AI in their marketing strategies to create hype around the project.

HOW TO AVOID FALLING VICTIM

To avoid falling victim to rug pulls, it is essential to conduct thorough research on the project, team, and the blockchain technology around it.

It is also advisable to verify the project’s legitimacy through reputable sources, such as CoinMarketCap or CryptoSlate.

Except in reasonable cases, it is advisable never to send cryptocurrency or tokens to an unverified wallet address.