Cryptocurrency markets offer many advantages and disadvantages over the traditional financial markets. This article will discuss order spoofing and how it impacts the cryptocurrency markets in comparison to other asset classes.
What is Spoofing?
Spoofing or order spoofing is a method of financial market manipulation. Traders can generate fake sales or purchase orders; in this manner, they create the false impression of increased trading volume for a given asset. Spoofing can happen in various investment markets such as stocks, commodities, and even cryptocurrencies.
In many cases, threat actors can use trading bots or automated algorithms to manipulate the markets. However, bots are designed to cancel the order before they reach the execution trigger price.
Spoofing is done to create a fake impression of trading activity for a given cryptocurrency. Malicious parties can generate an artificial sense of buy or sell pressure for a given virtual asset. Therefore, they may place a massive amount of big purchase or sales orders to delude the other market participants.
When remaining investors make decisions based on these fake trading spoofing positions anticipating price changes, the spoofing positions are dissolved taking advantage of the manipulated market movement.
The Impact of Spoofing on Crypto Markets
There is no straight way to pinpoint spoofing when it is happening in progress. It is impossible to predict if the order is fake or real. It is important to note that spoofing takes place at key areas of resistance and support levels keeping in view the increased market interest on these points.
For example, if ABC cryptocurrency has a resistance level of $10.00. It means that it is trying to break out of the resistance or ceiling to gain more momentum.
Investors are anticipating a price break and are eager to take profits at this resistance level in case of a price rally. Therefore, if the bots or the traders sense a strong resistance at this crucial resistance level of $10.00 for ABC token they are going to place large spoof orders there.
In this manner, other buyers who are waiting to purchase a case of a resistance reversal are going to become discouraged watching massive selling pressure accumulating in the form of spoofed orders.
Spoofing can also impact the same asset class acting on its various underlying instruments. In addition to the spot markets, spoofing can make another attack on the cryptocurrency derivatives by placing massive spoof orders to emulate inorganic and artificial demand.
What Market Conditions Make Spoofing Ineffective?
The good news is that unexpected market movements decrease the chances of successful spoofing. It can also be described as one of the benefits of the cryptocurrency markets since they are highly volatile.
Imagine a scenario where investors are waiting to cash out their positions to take profits after a strong resistance break expectations. The spoofing algorithms will also try to misdirect the market by placing massive purchase orders to create a fake sense of demand.
However, if the rally is strong enough it can drive a large amount of Fear of Missing Out (FOMO). It means that investors are continued to hold their positions or keep accumulating. It means that the flood of demand can execute the spoof orders before the bots have the time to remove them.
Notably during periods of massive volatility periods such as short squeezes or flash crashes, even large-scale orders can fill up in a matter of seconds. Market trends that are induced by the spot market such as high interest or direct outflows make spoofing ineffective.
Nevertheless, it can still cause damage to other unsuspecting investors depending on market conditions and other relevant factors.
Is Spoofing Illegal?
It is important to note that spoofing is not a trading strategy but a scam. It is dubbed illegal by the Commodity and Futures Trading Commission of the United States. The CFTC has declared spoofing as an illegal activity under the Dodd-Frank Act of 2010.
However, it is important to note that CFTC regulates commodities and stock markets in the country.
In general, exchange markets adopt different policies on their platform to flag canceled orders as spoofing. But it is a challenge to isolate honest order cancellations from spoofing unless they become highly repetitive.
It is the main reason that financial regulators often investigate the real intent behind placing a given order to detect or convict spoofing offenses. The Financial Conduct Authority (FCA) in the UK also investigates and prosecutes spoofing attempts under their jurisdictions.
Spoofing is harmful because it can take away the organic price movement and replace it with selling or buying pressure created artificially by spoofing. The cryptocurrency market grants security against spoofing since it is global and has high volatility.
However, if the investors are not identified as unique individuals on DeFi, therefore, detecting and intercepting spoofing here can become much more difficult than in traditional markets.