Cryptocurrency Exchanges Have a Bot Problem

On Tuesday, Oct. 2, the Wall Street Journal claiming that trading bots, a popular tool for both cryptocurrency and fiat investors, could be at the heart of the crypto market’s infamous volatility.

Bots are commonly used, and you can buy them yourself online or create them if you have the know-how. The problem, the WSJ report contends, is regulation.

The lack of or irregular regulation of cryptocurrency exchanges is an oft-cited reason for cryptocurrency’s lack of mainstream acceptance, and the leeriness of even savvy investors to take the plunge. Companies like Coinbase and Bakkt are definitely stepping up to help solve this problem—Bakkt is an arm of Intercontinental Exchange—but it does still exist. The WSJ claims:

“While established markets like the New York Stock Exchange monitor for illegal trading and punish rule-breakers, crypto exchanges vary widely in their surveillance efforts. Most crypto exchanges are regulated lightly, if at all. The result is that crypto bots can be used to execute abusive strategies on an industrial scale.”

When New York State Attorney General (AG) Barbara Underwood’s office released its Virtual Markets Integrity Initiative Report, it echoes these concerns. The report gathered information by sending letters to several cryptocurrency exchanges asking them to voluntarily disclose their practices, and while some did have policies in place to stop abusive practices like users opening multiple accounts, many still do not.

Earlier this year, we sent letters to major cryptocurrency trading platforms requesting key information on how they operate.

AG Underwood’s report also states that exchanges aren’t required to register with the federal government or the government of the state in which they do business, meaning they aren’t regulated by anyone but the users of the system and the developers of the exchange. This allows bots, says the WSJ, to “execute abusive strategies on an industrial scale.”

A lot of these shady market manipulation moves are already banned on the stock market. These strategies include executing buy and sell orders simultaneously from the same person in an effort to make it look like there’s more activity on a certain currency than there actually is, called “wash trading.”

Other bots are even more subtle. They’re programmed to manipulate price changes by posting sell orders at lower rates than other people, knowing that people watch the market for that kind of price dip as a signal to buy. Then, once someone tries to buy that currency, the bot cancels the sell order, boosting the price of a certain cryptocurrency like Ethereum. A similar tactic in the stock market called “spoofing,” where traders would use fake orders to trick their peers into buying and selling, was outlawed in 2010.

Working to change the system

There are forces working to change this behavior and bring more order to the crypto markets, however. Regulated cryptocurrency exchanges built on the backbone of the current futures trading system are in development. Over 40 state securities regulators have in an effort to crack down on shady investment and trading practices. Just this week, three such scammers were shut down in the state of North Dakota alone.

The U.S. Justice Department and the Commodities Futures Trading Commission (CFTC) are also investigating cryptocurrency manipulation, and the Securities and Exchange Commission (SEC) is helping to crack down on investment scams, sometimes with help from inside the crypto trading industry.

Cover Photo by Franck V. on Unsplash

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