DeFi is full of innovation, with some of the best developers getting together and trying to improve the existing financial system. Regrettably like in many other places, there is no shortage of malicious and lowly individuals trying to scam people for their money.
One of the most common exploits attackers use is called a rug pull. what is a rug pull? A rug pull is when developers abandon a project and run away with investors’ funds.
Rug pulls usually happen on decentralized exchanges (DEXs) because listing tokens on these exchanges is free and an audit is not required. The next step is to open a liquidity pool with a leading cryptocurrency like Ethereum. It is very common for these malicious teams to hype up the coin. Once a significant amount of unsuspecting investors swap their ETH for the listed token, the creators then dump their now worthless token for the quality token pair, driving the coin's price to zero.
Some of the recent rug pulls are: StableMagnet running off with $27 million worth of tokens, another scam is Meerkat Finance in which after just one day of operation, Meerkat Finance was rug pulled for 13 million BUSD and about 73,000 BNB, currently totaling around $31m.
Team Credibility: Projects can fake hype using social bots and paid followers on various social media platforms to build fake online credibility. For this reason, you shouldn't jump right into a hot project you heard about in a Discord group or on Twitter. It is important to do a basic background check on the development team. Are they legit? Did they ever work on another crypto project?
One of the best ways to gather information is to start with a simple google search. After that, you can look up the founding teams Linked-in and Github. This background information should give you a sense if this project is serious and is trying to build something of value or just forking a project to steal funds. This method won't work with a project that has anonymous founders. I wouldn't automatically pass on such projects, don't forget that you would miss bitcoin if you did.
Blockonomi mentions this about the LinkedIn pages of Confido teams: "The dead giveaway was the fact that the pages of the four main scammers involved—two developers and two executives—were brand-new and had barely any connections."
Promising Excessive Returns - Is it too good to be true? Then it probably is. Projects that promise a three-figure APY are probably a Ponzi scheme. there is no shortage of projects that promised extravagant returns and failed to deliver.
Lookup platforms liquidity – The number one way to get a quick overview of a token’s legitimacy is to look at its liquidity. Real projects tend to have millions, if not billions, in liquidity. Also, see if there’s a staking period. Legitimate projects will lock up a significant amount of their tokens for a lengthy time frame. Locked tokens cannot be withdrawn from the liquidity pool, making a project much less likely to be a scam.
Skyrocketing value – If a small project is suddenly shooting up in value, there’s reason to be concerned. The goal is to get you and other buyers involved via FOMO. If you see a project skyrocketing in value, check the reasoning for it. Is there news of an exchange listing? Did the group partner with someone new? If you can’t find any reason, you should probably be skeptical.
Documentation Standards - The white paper is a key document that details how a cryptocurrency project is designed and developed, how it evolved, and how it will generate business. Incomprehensible, unclear, and ambiguously written white papers are a big red flag to investors about a potential exit scam.
Non-Existent Working Model - Does the cryptocurrency project have a bare-bones working model? If it is a concept-only, non-existent product, then it probably won't work. It is true that some new-age technology may need to be designed completely from scratch, but promoters who want to raise millions of dollars should prove their project is worth investing in. To be safe, investors should avoid dubious offerings from obscure individuals.