In 2017, thousands of investors located in just over 175 countries found themselves with empty pockets: they invested almost $4 billion (US) in a cryptocurrency called “OneCoin”. The mastermind behind the project, Ruja Ignatova, is believed to have disappeared, and all the money is gone.
This news caught the imagination in the world of cryptocurrencies. Moreover, the BBC even dedicated a podcast to him. While this is a major scam, the fact remains that this type of scam is common in the world of crypto assets. These include cryptocurrencies (such as Bitcoin) and non-fungible tokens (NFTs). Ownership of these tokens provides the investor with rights that can take various forms (access to a good – such as a work of art – or a service, or similar to owning a share).
Over the years, first in my professional life as an auditor and forensic accountant, and then as a researcher, I have been interested in the study of fraud. I am mainly interested in the determinants of fraud, as well as its indicators and consequences. More recently, my interest has focused on crypto asset fraud, as these new technologies come with new risks and restrictions that not only users/investors, but also regulators face.
Terrible amount of scams
According to a 2018 report by a crypto asset firm, nearly 80% of all first crypto asset releases (PECs) launched in 2017, such as new cryptocurrencies, were fraudulent. Obviously, it is impossible to accurately measure the number of fraud cases that occur each year, in particular because most of them are not reported to the competent authorities. However, this alarming figure should still challenge potential investors to manage their own risks.
You should be aware that crypto assets are practically unregulated anywhere in the world. Regulators such as the Autorité des Marchés financiers here in Quebec and the Securities and Exchange Commission in the United States have been working on this for some time, but regulation on some issues has lagged behind. This situation can be explained, among other things, by the decentralization and lack of boundaries of these investments, which makes it especially difficult to develop and apply laws and regulations.
“Traditional” Fraud Indicators
Investing in crypto assets falls under the realm of technology finance, commonly referred to as FinTech. FinTech investment vehicles differ significantly from those of traditional finance, and FinTech investors are often driven by the search for quick, even speculative returns.
The fact remains that indicators of fraud that have existed for a very long time in traditional finance, such as investing in the stock markets, are also present in fintech. One only needs to think about guaranteeing incredible rates of return, far exceeding those found in regulated markets. Or even the urgency to invest that some promoters of financial products brandish to encourage investors to invest their money in them without wasting time thinking.
This urgency is especially felt when the promoter plays on the fear of missing out on an incredible investment opportunity, encouraging the investor to put his money in as quickly as possible if he doesn’t want to be pulled out from under his feet by other faster investors. We could draw a parallel with promotions for goods in stores that are sold at discounted prices, but indicate that the quantity is limited. However, in the case of investments, this often turns out to be more of a scam than a tempting opportunity.
Explanatory documents … but not regulated
The technological aspect of crypto assets means that new indicators appeared immediately. Since they are different from what investors are used to hearing from stakeholders responsible for informing them of the risks they take, in particular investment advisors, it is very important that they pay particular attention to the projects they intend to invest in. Indeed, the absence (or quasi-absence) of regulation means that, for the time being, it is the sole responsibility of the investor to protect himself from the many scams that are prevalent in the industry. However, there are exchange-traded funds backed by cryptoassets, which are offered by some investment funds. But the fact remains that these investments are subject to the risk of volatility.
As with traditional investments, PEC teams publish a so-called white paper. Similar to a prospectus, in the case of a public offering—that is, the fact that a company is raising additional funds, for example, through a share offering—this document sends the potential investor extensive information about the proposed project. We are talking, among other things, about the work of the project or the composition of the team behind it.
However, this is where the similarities with prospectuses end, since, in contrast, White paper not regulated. Therefore, the issuer can indicate there what he wants, and, conversely, omit information that may be useful to a potential investor. It is important to note that for most projects, anyone can issue such White paper. But regulators strongly recommend that the entity in question register not only to increase the confidence of potential investors, but above all to ensure compliance with current regulations.
New Fraud Indicators
Therefore, there are indicators of fraud specific to crypto assets. Thus we have seen white papers containing contradictory elements, inconsistencies or even errors, in particular (surprisingly) in the name of the company behind the project. Indeed, some white papers copied from other projects are reviewed in a hurry, leaving behind these types of typos. You should be aware that, as a rule, PEC is a unique project, and that a copy usually signals a fraudulent project.
In addition, another indicator of potential fraud is White paper some passages are difficult to read. This should make a potential investor doubt the seriousness of the project. Really, White paper primarily useful for informing the investor, and the use of abstruse language in such a document should be prohibited for any project that wants to be consistent.
In addition, the team behind the project is essential to its success, especially due to its technological complexity. Therefore, it is doubtful that it is not put forward in the project documentation, whether in White paper or on his website. Also, it is usually quite easy to contact the PEC team to ask questions or get more information about the project, which is not the case with traditional finance. If a potential investor fails to contact the team, there is again reason to doubt the seriousness of the project.
The presence of one of the signs of fraud discussed above does not de facto mean that the project is fraudulent. However, recognizing this means that the investor is better equipped to manage their own investment risk associated with fraud, which is especially prevalent in the crypto asset ecosystem.
The original version of this article was published on The Conversation, a non-profit news site dedicated to exchanging ideas between academic experts and the general public.