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Scam Wicks: Why Should I Care, and How Do I Protect Myself?

Analysis
Reading Time: 5 minutes

If you are trading cryptocurrencies, you may have felt at some point like you don’t fully understand how the system works.  Unless you are bot-equipped crypto powerhouse, there are certainly some things you have left to learn.  It’s like treasure hunting in a dark forest:  You know there is a chance for wealth, but there are also dangers unknown.  One of these dangers that hits the headlines more and more often is called a “scam wick”.  They are sudden, violent and can wipe out tens of millions in trader holdings in a matter of minutes.

But the details of a scam wick are complex, confusing and not well defined.  Further, sometimes a “scam wick” is naturally occurring and not malicious—though there are still liquidated victims.  

It would be helpful to examine exactly what a scam wick is, what background conditions are necessary for one to occur, some of the root causes behind them, and what you can do to protect yourself.

Candlestick Basics

Before we can understand a scam wick, it’s important to review the core of what a candlestick is.  Simply put, a candlestick chart is a way to see the trading range for a given period of time.  There are four data points that create the candle:

  • Open: The price that was last traded when the candle (trading period) started
  • High: The trading period’s highest trade
  • Low: The trading period’s lowest trade
  • Close: The price that was last traded when the candle (trading period) ended

As you can see, the “candle” portion is the box, and the “wicks” are the lines above and below the candle.


Source:  Wikipedia

Scam Wick: What is It?

In a normal situation, the wicks of the candlestick are not significantly long because prices don’t normally swing violently within a trading period and then end close to where they started.  However, in the rare occasions this happens, a very long wick is formed, as shown below.


Source: Binance

This is commonly referred to as a scam wick.  Interestingly, there is not an official definition, but an accepted definition is when an individual trader intentionally trades at a price significantly higher/lower than the trading range, with the intent to trigger other trader’s stop losses.  This in turn may create an avalanche of buys/sells which will force the price in the direction the trader had intended.

In general, these events cause a wick that is extraordinarily large,  move but then pull back rapidly (often around one minute), and only takes place on a single exchange (meaning the move was local and likely intentional).

A scam wick is more likely to occur when certain conditions are present.  In a lot of ways, a scam wick is like a wildfire.  A wildfire can ravage an forest at any time, but is highly likely if there is a:

  • Dry environment (low liquidity).  When liquidity is low, it creates high slippage and isn’t able to absorb orders.
  • Spark (initiation).  This is typically a larger order that is far outside the candlebox price range.  Though the term “scam wick” is used, sometimes these actions are unintentional, such as the October 2021 Binance incident caused by a faulty trading algorithm.  Even simple typos by a large trader can spark the event.
  • Accelerants (momentum).  The spark by itself creates an initial jump, but what creates the momentum are the other traders.  Some traders will see the momentum starting and enter a position to ride the wave before it gives out.  Market makers who maintain liquidity on both sides of the book may remove some liquidity as the price moves outside their profitable zone (this is called a “liquidity flight”).  Perhaps the most dangerous accelerant for the average trader is the effect of leveraged trading. 
  • Extinguished (retracement).  Most often the market will move to defend against these violent swings, will realize that the action is local, and because there is no economic reason for it, will return liquidity around the fair price.

Like wildfires, location matters.  Some exchanges have made headlines far more than others due to allowing scam wicks to occur.  In some cases, there has been outrage from the trading community with accusations of the exchange itself perpetrating the scam wick in order to sweep up collateral from leveraged traders.  On the other side, there are exchanges who are working to reduce or eliminate the conditions necessary for a scam wick.  The Gains Network, for example, has developed liquidity efficiency up to 100x better than average, allowing significantly less liquidity needed for a stable market.  They also offer very high leverage without funding fees because of their gTrade simulated trading, further stabilizing the market.  

So why does this actually matter to the average trader?  Unfortunately, this is where the casualties of a scam wick start to pile up.  Those traders who are heavily leveraged may see the price rise or dip far beyond their position.  This will at best trigger their stop orders (or similar devices), creating trades and kicking them out of their positions (and costing transaction fees).  At worst, their position will be automatically liquidated and they will lose their leverage collateral, with tens of millions potentially lost across the market.

How Do I Protect Myself?

This is where there is good news and bad news.  The bad news is that scam wicks happen without warning, and if you are a leveraged trader, being caught in one might cost you.  You can, however, reduce the odds of being caught in a scam wick by trading on an exchange that actively works to protect against them.   As mentioned above, the Gains Network and others like it have structured their exchanges to better protect their customers.  The other hands on protection you can take is to:

  • Decide your risk level and what you’re willing to lose before you start leveraged trading.  It is a high-risk, high-return endeavor and not for everyone.
  • If you do decide to take part in leveraged trading, make sure to do your homework on stop orders and similar protective devices, and set them up in line with your risk/reward comfort level.
Wrapping Up

Now that you know more about scam wicks, what they are, why they happen, and what the consequences are, you can have a better understanding when you see the next one make the headlines.  See if you can identify the root causes, and if you can spot the ripe conditions that made it possible.  Most importantly, use the lesson learned to ensure that your own positions are as protected as possible from a scam wick, and that you are equipped to take on the market with earned confidence.

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