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Fraudsters Ride The Cryptocurrency Tsunami, Dangerous Tides Ahead

May 18, 2021

By Aara Ramesh

On Monday, May 17, the Federal Trade Commission (FTC) released data about cryptocurrency investment scams, as reported by consumers in October 2020–March 2021. In that six-month period, the FTC received almost 7,000 complaints, amounting to a total of $80 million lost in cryptocurrency investment scams alone, with the median reported loss being $1,900. This represented a 1,000% increase in value lost and a 12X growth in the volume of complaints received during the same period in the previous year. 

People in the 20–49 age range were five times more likely to report losing money on cryptocurrency scams than older complainants. Those in their 20s and 30s reported losing a lot more in cryptocurrency fraud, when compared with any other type, and over 50% of the fraud they reported involved cryptocurrency.

Overall levels of fraud have increased recently, with one financial services firm estimating that it is costing the world approximately $5.13 trillion each year. The Securities and Exchange Commission warned the public at the tail-end of last year, to be vigilant against investment scams, which seem to spike during “times of uncertainty and change, such as the current COVID-19 pandemic.”

Some experts believe that cryptocurrency theft is one of the fastest-growing forms of cybercrime. The FTC data only seems to confirm that. In fact, as the FTC relies on consumers reporting fraud, the real numbers may actually be much higher. So, what is cryptocurrency and why should you stay vigilant?

Cryptocurrency 101

If your investment-savvy neighbor or banker sister is to be believed, then cryptocurrency is more than the next big thing — it is the future.

The simple way of understanding cryptocurrencies is to look at it like tokens at an arcade. You need “real” money to buy tokens, which you then use to play the games within the arcade, but you cannot use those tokens at your local corner-shop. In the same way, you need “real” money to buy Bitcoin, which you can then use on a select number of services (at the moment). You can also keep your digital currency safely away because you have the feeling that in a couple months or years, you’ll be able to trade in your Bitcoin for more dollars than you spent on it in the first place.

That’s cryptocurrency and its uses, in an oversimplified nutshell.

These entirely digital tokens have no physical form, they are held in a digital wallet and are bought and sold through an online exchange. The way to generate more cryptocurrencies is through a process called “mining.” This is a peer-to-peer (P2P) system in which “miners” validate other users’ transactions. That is, they create “hash codes to encrypt the transactions.” Essentially, they remove the middlemen.

All cryptocurrency transactions are recorded in a decentralized, public ledger called a “blockchain.” Blockchains build on themselves, “storing an ever-increasing amount of data about the transactions for a specific cryptocurrency.” While the blockchain is available to the public, the specifics of individual transactions are secured using cryptography.

According to Investopedia, one of the myriad benefits of cryptocurrencies is that they are extremely difficult to counterfeit. They cater to the premium that users place on anonymity and privacy, though the level you can expect depends on the currency being used. Cryptocurrencies are fully legal in the U.S., though this may not be the case in other countries, such as China.

There is some ambiguity about the exact classification of cryptocurrencies. Some view it as a future alternative to existing money like the dollar, and buy it up now before it becomes too expensive. The decentralized nature of cryptocurrencies removes monetary policy from the mix, meaning that the risk of money being devalued via inflation is reduced. Others just see it as an investment tool, like a stock or a bond. It shares some similarities with gold, but is not quite like it either, as it has no intrinsic value nor use. It is an extremely risky form of trading, just like foreign exchange trading.

On the other hand, legendary investor Warren Buffett does not see much value in cryptocurrencies, likening it to “paper checks.” Unlike fiat money, which has its own stored value, Buffett believes that cryptocurrencies are just “a very effective way of transmitting money,” just like a paper check.

There are also some concerns over the environmental impact of the growth in the cryptocurrency market. The process of mining requires both excellent hardware and a reliable supply of power, making it incredibly energy inefficient.

Additionally, unless you are a “miner,” you will need traditional fiat money to buy one of the types of cryptocoin, making it less accessible and another tool for those used to trading in financial instruments.

The three most popular types of cryptocurrency at the moment are Bitcoin, Dogecoin, and Ethereum. Bitcoin has risen almost 100% in value since the start of the year, while Ethereum gained almost 450% value and Dogecoin is up over 10,000% over the same period. The S&P 500 has risen around 13% this year, just so you get an idea.

Bitcoin, created in 2009, is the oldest and most well-known of the thousands of cryptocurrencies on the market today. Its current value is around $43,638.70. Much like Xerox and Kleenex before it, Bitcoin has become, to the lay-person, the generic name for all cryptocurrencies, though it is only one subtype. It makes up over half the entire market, and the rallies it’s seen have been a major factor behind cryptocurrency’s meteoric rise. 

Ethereum is the second-largest digital currency in the market, though Dogecoin, created in 2013 and based on the meme, is gaining traction.

To say that the market for cryptocurrencies is growing rapidly would be a gross understatement. In April this year, its value breached the $2 trillion mark for the first time ever. It is also, to put it mildly, a rollercoaster. On May 17, the market took a sharp downswing, wiping out over half a trillion dollars in value and falling to $2.02 trillion from the previous week’s peak of about $2.546 trillion.

Some experts attribute the recent spike in cryptocurrency trading to apps such as Robinhood and Coinbase giving users a chance to invest in these digital tokens and convert them to cash. This coincided neatly with the pandemic, in which people were isolated at home, cut off from many forms of entertainment, and were armed with stimulus money — many turned to cryptocurrency trading and investing as a hobby.

This all seems to be another step in blurring the boundaries between gambling, gamification, and cryptocurrency. Earlier this year, International Gaming Technology (IGT), the world’s largest maker of slot machines, made moves towards working cryptocurrencies into future betting transactions.

Also, to cash in on this trend, there have been reports that wealth management institutions, including Morgan Stanley, Fidelity, and Goldman Sachs, are devising strategies to get involved in the crypto-game. Coinbase recently became the first cryptocurrency exchange to go public on the Nasdaq, and more brands such as PayPal and Sotheby’s are accepting it as a form of payment now. 

The Other Side Of The Crypto-Coin

Part of the problem with cryptocurrencies is its inherently paradoxical nature. While its security is a draw for many investors, its decentralised P2P system means that there is almost nothing in the way of oversight or regulations. It is not FDIC insured so there will be no government authority to step in and cover loss from fraud. This is especially challenging, given that most of these frauds can allegedly be traced back to foreign countries.

The legalities surrounding it, regulating its purchase and use, are complex, but they are also still in their infancy. In fact, some have likened the market and its associated scams to the “Wild, Wild West.” 

It’s hardly a surprise that this space is increasingly attractive to fraudsters and criminals. In 2020, according to the FBI, the US lost over $4 billion in internet crime. Earlier in May, a cyber crime-syndicate hacked the largest fuel pipeline in the US, demanding a ransom in Bitcoin in return. This prompted President Biden to order his administration to prioritize beefing up the country’s protections and weapons against cyberattacks. In February, unsealed documents revealed that three North Korean hackers had been involved in an extortion and theft scheme worth $1.3 billion, wherein they were attempting to extract money and cryptocurrency from financial institutions and companies.

As the warning from the FTC indicates, however, regulators are increasingly being forced to scrutinize cryptocurrency transactions.

The Elok Musk Of It All

One name increasingly linked to the rise of cryptocurrency is that of the CEO of Tesla, Inc., Elon Musk. The FTC even singles him out in their warning over cryptocurrency scams, saying that since October consumers have reported losing over $2 million to impersonators of Musk alone.

Over recent years, but particularly during the pandemic, there has been an amalgamation of pop culture and the financial world. Celebrities are hopping on the bandwagon, while the “front page of the internet,” Reddit, takes on Wall Street short sellers and uses memes as its rallying cry. Apps like Robinhood have gamified investment, rewarding users with confetti when they make a trade and sending them push notifications to urge them to check the app multiple times a day. Old-school memes are becoming Non-Fungible Tokens (NFTs) that sell for thousands of dollars. (Think of an NFT as owning the original version of a painting versus owning a reprint.) What was once the purview of a select few is now a free-for-all buffet. 

Amidst this, Musk has oscillated between vouching for Bitcoin, to not; from calling Dogecoin “a hustle,” to nicknaming himself “the Dogefather.”

It seems like cryptocurrency scams are just the new form of the old, familiar classics — the twentieth century had Ponzi and Madoff, we in the twenty-first century have this. There have always been fraudsters who seek to exploit people’s lack of expertise in trading financial instruments. Now, they are just capitalizing on the reach of the internet, the intricacies of cryptocurrency, and the uncertainty of the market.

The information provided in this article should not be considered legal, financial, or investment advice or a substitute for it. Biometrica is not a law firm nor an investment/financial advisory firm and cannot offer such advice.