Spoofing is a form of market manipulation in which a trader places bogus buy or sell orders without ever intending to execute them in the market. Spoofing is usually carried out using algorithms and bots to manipulate the market and asset prices by creating a false impression of supply or demand.
Spoofing is illegal in many important markets including the US and UK.
Many often talk about how large traders and whales manipulate the markets. While most of these theories can be easily challenged, there are several well-known market manipulation techniques that require large investments. One of them is spoofing.
What is spoofing?
Spoofing is a way to manipulate markets by placing fake orders to buy or sell assets such as stocks, commodities, and cryptocurrencies. Typically, traders who try to trick the market use robots or algorithms to automatically place buy or sell orders. When orders are ready to be filled, the robots cancel the orders.
The main idea behind spoofing is to try to create a false impression of pressure from buyers or sellers. For example, a spoofer might place a large number of fake purchase orders to create a false impression of demand in a particular price bracket. Then, when the market gets close to the level, they pull out orders and the price continues to fall.
How markets typically respond to spoofing?
The market often reacts strongly to fraudulent orders because there is no effective way to know if the order is real or fake. Spoofing can be especially effective if orders are placed in key areas of interest to buyers and sellers, such as areas of significant support or resistance.
Take Bitcoin for example. Let’s say Bitcoin has a high resistance level of $ 10,500. In technical analysis, the term “resistance” refers to the area where price makes a “high”. Naturally, this is where we can expect sellers to place their orders to sell their shares. If the price is rejected at the resistance level, it could plummet. However, if it breaks out of resistance, it is highly likely that the upward movement will continue.
If the $ 10,500 level turns out to be strong resistance, bots are likely to place false orders slightly above it. When buyers see massive sell orders above such a large technical level, they may be less likely to aggressively buy up to that level. Here’s how identity theft can be effective in market manipulation.
It should be noted here that spoofing can be effective across different markets that are all tied to the same underlying instrument. For example, large fraudulent orders in the derivatives market can affect the cash market for the same asset and vice versa.
When is spoofing less effective?
Spoofing can become more risky when unexpected market moves are likely.
For example, suppose a trader wants to sell at a resistance level. If there is a strong rally and the fear of missing out (FOMO) among retail traders suddenly leads to tremendous volatility, fraudulent orders can fill up quickly. Obviously, this is not ideal for a spoofer, since he was not going to enter the mail. Likewise, a short press or flash failure can complete even a large order in seconds.
When the market trend is largely driven by the cash market, identity theft becomes more and more risky. For example, if an uptrend is driven by the spot market, indicating a high interest in buying outright the underlying asset, identity theft may be less effective. However, this largely depends on the specific market environment and many other factors.
Is identity theft illegal?
Identity theft is illegal in the United States. The US Commodity Futures Trading Commission (CFTC) is responsible for overseeing identity theft in the stock and commodity markets.
Identity theft is illegal in the United States under section 747 of the Dodd-Frank Act 2010. This section states that the CFTC may regulate the activities of an organization that:
demonstrates a willful or reckless disregard for the order of execution of trades during the closing period, or is of nature or is commonly referred to in trading, “ usurpation ” (an offer or offer with the intention of canceling an offer or offer before execution).
It is difficult to classify canceled offers in the futures market as impersonating unless the action becomes very repetitive. This is why regulators can also consider the intent behind the orders before moving on to fine, charge, or clarify potential behavior for another person.
Other major financial markets such as the UK also regulate identity theft. The UK Financial Conduct Authority (FCA) is mandated to impose fines on merchants and institutions responsible for identity theft.
Why spoofing is bad for the markets?
So identity theft is illegal and tends to be detrimental to the markets, but why? Well, identity theft can lead to price changes that would not otherwise affect supply and demand. Meanwhile, since spoofers control these price movements, they can profit from them.
US regulators have also expressed concerns about past market manipulation. In December 2020, the US Securities and Exchange Commission (SEC) rejected all Bitcoin exchange-traded fund (ETF) offers. Once approved, the ETF allows more traditional investors in the United States to access assets like bitcoin. Several factors are commonly cited for rejecting bids – one of which is that they do not consider the bitcoin market to be secure against market manipulation.
However, this may change as the bitcoin markets enter a new phase of maturity with increased liquidity and institutional adoption.
Final thoughts
Identity theft is a market manipulation technique that involves placing fake orders. This can be difficult to consistently identify, but not impossible. Assessing whether deleting buy or sell orders constitutes identity theft requires careful analysis of the intent behind the orders.
Minimizing identity theft is desirable in any market because it helps maintain a balanced environment for everyone involved. Since regulators often cite market manipulation as a reason for abandoning Bitcoin ETFs, efforts to minimize identity theft can benefit the cryptocurrency market in the long term.
