What Is NFT Wash Trading?

Snorlax

Nov 21, 2022•2 min read

Definition

When the buyer and seller in a transaction are the same people or two persons working together, this is known as "wash trading." It is prohibited in traditional financial markets because it misleads the rest of the market about the genuine amount of demand, distorts prices, and encourages others to trade based on false information.

Since the Commodity Exchange Act (CEA) passage in 1936, this activity has been illegal in many traditional markets in the United States.

However, the practice persists in unregulated crypto markets, particularly with NFTs. "Wash trading involving NFTs has yet to be the subject of an enforcement action," according to Chainalysis.

Wash trading has always been a problem for cryptocurrency exchanges aiming to inflate their transaction volumes; for example, Bitwise Asset Management stated in 2019 that up to 95% of all reported bitcoin (BTC) trading activity on exchanges is fraudulent.

How to detect NFT wash trading?

We're really talking about recognizing the telltale indicators of an NFT "sale" that is simply a transfer between one person's several wallets. There is some good news here: for the skilled eye, some basic blockchain analysis makes detecting a self-financed NFT sale rather simple. By the way, here's a simple diagram of what that normally looks like:

The NFT appears to have been sold in a straightforward transaction between the marketplace and the buyer in this case. However, closer examination reveals that the "buyer" wallet received the purchasing funds from the seller's wallet - the same person is behind both. There are a few things you should keep an eye out for.

If the same wallet address has purchased the token more than once (as in the Crypto Punk #9998 example above), this is a pretty good indicator that sales manipulation is at work, and can be seen on the marketplace's interface.

Previous crypto transfers from the selling wallet to the acquiring wallet are another indicator of wash trading, indicating that the sale is truly self-funded. Blockchain explorer tools such as Etherscan are useful in this situation since they allow you to search the transaction history of tokens and wallets using public blockchain data. You can see both the sending and receiving addresses for each transaction and determine whether or not self-funding occurred. Check out our guide to investigating transactions with Etherescan.

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