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Crypto Market Manipulation Through Trading Bots

The crypto industry looked at decentralized exchanges as the long-awaited solution to a very centralized crypto exchanges industry. DEXes, as they are popularly known, give the ultimate control back to the user. They rely on smart contracts to execute the trades, all without having to relinquish your cryptos to an exchange operator. However, according to a new report, DEXes are rife with trading bots that are manipulating the markets.

The report by researchers from Cornell University and several other universities attributed the bots to DEX design flaws. It comprehensively looks at all the ways in which trading bots have exploited these flaws and other inefficiencies to give some traders an edge over their peers.

At first glance, decentralized exchanges seem ideally designed. They appear to provide effective price discovery and fair trading while doing away with the drawbacks of centralized exchanges. […] Despite their clear benefits, however, many DEXes come
with a serious and fundamental weakness: on-chain, smart contract-mediated trades are slow.

One of the methods the bots use is known as front running. This is where the bots get to see another trader’s order and place their own first. This is mostly associated with traditional stock traders. In the crypto world, bots do this by engaging in priority gas auctions (PGAs) where they bid up transaction fees (gas).

The bots can also engage in yet another manipulation tactic which the researchers termed miner-extractable value (MEV). This is the value that miners can extract directly as crypto profits from smart contracts.

These and several other strategies give traders using these bots an unfair advantage over their peers.

Could Be Affecting Centralized Exchanges as Well

The researchers have been tracking six DEXes since October last year. They also examined historical data from many others. On just these six exchanges, over 500 bots existed, executing trades worth over $20,000 daily. EtherDelta and Bancor were two of the leading culprits, lead author Philip Daian told Bloomberg.

Granted, this is just a small percentage of the $10 billion that the crypto industry trades on average daily. However, the research only focused on DEXes. The situation could be just as bad with centralized exchanges.

Speaking at a blockchain event in its New York City campus, Cornell Tech professor Ari Juels explained:

We have no idea what the extent of the malfeasance is on centralized exchanges. If we extrapolate from what we’ve seen on DEXes, it could well be on the order of billions of dollars.

Moreover, the use of DEXes is increasing gradually over time. This is led by people’s disdain for platforms that require them to relinquish control of their crypto assets. With centralized exchanges being the prime targets for hackers, cryptos traders are finding the need for platforms that rely solely on programming and mathematics. Additionally, centralized giants such as Binance have delved into DEXes, with more heavyweights likely to take the plunge.

While Bancor was among the most notable exchanges rife with bots, the exchange denied the claims. According to Bancor’s communications director Nate Hindman, the Swiss exchange has inbuilt features that fight manipulation. One of its strategies is setting the maximum gas price to ensure that attackers can’t skip over other traders by bidding higher.

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Written by Ravikash

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