By Camila Russo and Benjamin Robertson
Four months ago, BitForex was just one of many obscure exchanges offering users the ability to trade cryptocurrencies like Bitcoin.
Today, the Singapore-based platform is regularly reporting daily transactions that exceed $5 billion — nearly matching turnover on Londons 217-year-old stock exchange.
How did BitForex — and other startups like it — expand so quickly despite tumbling digital-asset prices and slowing activity on more established venues?
Many market participants say they suspect these fast-growing exchanges are either offering incentives that encourage users to inflate volumes, or not doing enough to stop abuse on their platforms. One red flag at BitForex: Its reported volume is by far the biggest among 219 platforms tracked by CoinMarketCap.com, despite traffic on its website amounts to a tiny fraction of most peers.
For individual investors lured to exchanges with inflated volumes, the risk is that cashing out at prevailing market rates may prove much harder than the reported figures suggest. Doubts about the integrity of crypto markets have deterred some professional money managers from investing in virtual currencies and prompted regulators to take a closer look at exchanges, even as some venues go to great lengths to avoid manipulation.
“Some exchanges will say everyones doing it, so Im doing it,” said Neil Woodfine, a former crypto exchange executive who now runs Clavestone, a Bitcoin key management service. “New traders will get feedback very quickly from engaging with the market on trades not executing at the price they want.”
Trading has surged on BitForex because of the exchanges so-called transaction mining system, Garrett Jin, vice president at BitForex, said in an emailed response to questions.
Transaction mining, also known as trade mining, is a controversial practice. On BitForex, users earn the equivalent of $1.20 in digital tokens issued by the exchange for every $1 they pay in transaction fees. Its a system that critics say is tailor-made to encourage wash trading — in which a trader, or a team of traders, buy and sell the same asset repeatedly to inflate market activity.
If the coins distributed by BitForex retain their value, customers can effectively earn free money by using automated programs, known as “bots,” to swap cryptocurrencies back and forth between accounts under their control. (Not all trade-mining exchanges offer rebates that exceed the value of trading fees paid by customers.)
“All users are contributors to this exchange” and should be rewarded, Jin said by email, adding that BitForex “opposes” all kinds of manipulation and that the incentive program is set to end soon. He didnt elaborate when asked whether the venue has tools to monitor and prevent abusive trading. Jin said its “technically possible” for users to trade with themselves using two accounts, and that the exchange is working to address the issue.
Exchanges including DOBI Trade, FCoin, CoinSuper and CoinBene, which offer or have offered similar transaction mining incentives, didnt reply to requests for comment.
CoinMarketCap.com, which compiles its data from the exchanges, publishes an “adjusted” ranking that excludes volume from trade-mining venues and some other platforms. “We have multiple automated alerts detecting anomalies in the data,” CoinMarketCap.com spokeswoman Carylyne Chan said in an email.
Like other crypto exchanges in Singapore, BitForex isnt directly regulated by the Monetary Authority of Singapore. “Digital tokens are mainly traded on opaque markets, with no regulatory protection for investors,” MAS said in an emailed response to questions. “There may not be enough active buyers or sellers and consumers may not be able to exit their token investments easily.”
U.S. authorities have expressed similar concerns. Bloomberg reported in May that the U.S. Justice Department has opened a criminal probe into suspected illegal practices in crypto markets, including wash trades. In a report last week, New Yorks attorney general said the industry has generally failed to adopt serious market surveillance measures to detect and punish suspicious trading, though it didnt single out any venues for wrongdoing.
Market participants say quantifying the scale of suspected volume exaggeration is difficult. But Calvin Cheng, a Singaporean entrepreneur who bought a stake in Chinas first Bitcoin exchange in January and founded another venue in April, estimated in an interview that most of the trades recorded by crypto platforms globally are bogus. Combined volumes at all exchanges tracked by CoinMarketCap.com totaled about $15 billion over the past 24 hours.
Even the largest exchange operators cant be trusted, warned Asim Ahmad, who recently left BlackRock Inc. to start Eterna Capital, a blockchain investment firm. He based the assessment on his own trading experience and time spent watching exchanges order books.
Both Ahmad and Clavestones Woodfine said automated, high-frequency trading strategies are likely fueling inflated volumes. Automated trading is widely used in traditional markets under regulatory oversight, though it can facilitate manipulation when unmonitored. The report from New Yorks attorney general said its "of particular concern" that many platforms have no formal policies governing automated trading.
BitForex may just be “one of the worst offenders in this parade of inflated volume,” said Dmitriy Budorin, chief executive officer of cybersecurity firm Hacken and founder of Crypto Exchange Ranks, which scores venues on metrics including liquidity and security.
As a rough check on exchanges numbers, some traders have started comparing reported volumes to website traffic. On that metric, DOBI Trade, BitForex and Liquid stand out as having reported transactions many times larger than website visits (see the above chart for more details).
Liquid, operated by Japan-based Quoine, said its volume doesnt correlate with website traffic because of users who deploy automated trading programs. Quoine CEO and co-founder Mike Kayamori said clients who have attempted wash trades have been banned from the platform and that the exchange, which is regulated by Japans Financial Services Agency, adopts “stringent compliance measures.”
Almost 40 percent of trades at the top 30 exchanges ranked by CoinMarketCap.com came from the eight venues with the highest volume-to-visits ratio, data compiled by Bloomberg show.
CoinFi, a cryptocurrency research firm co-founded by former Goldman Sachs Group Inc. analyst Timothy Tam, performs a similar analysis comparing exchanges reported volumes to the value of assets held in their crypto wallets. High volume-to-asset ratios can be red flags, Tam said, adding a caveat that some of the data on exchange wallets may be incomplete.
Of course, not all digital currency exchanges are raising concerns among investors. Major venues in the U.S. appear to be reporting “pretty accurate” figures and are willing to work with regulators, said Michael Kazley, a Goldman Sachs and Cedar Lake Capital Ventures alum who co-founded Crescent Crypto Asset Management in New York.
Gemini Trust Co., the New York-based crypto exchange owned by Cameron and Tyler Winklevoss, has hired Nasdaq Inc. to conduct market surveillance for Bitcoin and Ether trading as well as the auction that helps price Cboe Global Markets Inc.s Bitcoin futures. The twins, famous for their early role in Facebook, have also set up a self-regulatory organization called the Virtual Commodity Association to root out bad behavior in the industry and work with the government.
Jim Bai, CEO of EverMarkets Exchange, says hes optimistic crypto venues will become more trustworthy as the industry grows.
“Fake volumes are unfortunately all too common in todays crypto-exchange ecosystem,” he said. “The industry will mature of course. As it does, more legitimate exchanges will come along and provide enough real, beneficial structural incentives so that people wont be misled into trading on questionable venues. It will be a healthier marketplace.”