Dumping risk, also known as post-ICO dumping, refers to the risk that major stakeholders in a cryptocurrency project will sell off large amounts of their holdings after the project launches or following an ICO (initial coin offering). This massive selling pressure can lead to a sharp decline in the price of the cryptocurrency.
Some key characteristics of dumping risk include:
- It arises when founders, employees, advisors, and early investors in a crypto project cash out parts of their holdings once the token is freely tradable on exchanges.
- It is most prevalent after an ICO, as lock-up periods expire and insiders finally have liquidity to sell their tokens.
- The risk is higher for smaller market cap coins with more concentrated token ownership.
- Sharp price declines of 50% or more can occur if stakeholder selling is coordinated and overwhelming.
- Retail investors who bought into the ICO or after listing often end up bearing the brunt of dumping risk.
Why Does Dumping Risk Occur?
There are a few key reasons why dumping risk is common in the crypto sphere:
- Liquidity — Many crypto projects raise funds through an ICO before their token is listed on exchanges. This means stakeholders like founders and early investors have illiquid holdings that take months to become liquid. They therefore have incentive to sell once they finally can.
- Maximizing returns — Insiders at crypto projects often get tokens at steep discounts or for free. By selling immediately after public listing, they can lock in large risk-free returns.
- Lack of incentive to hold — Unlike company stock, the tokens seldom give ownership rights or dividends. And founders may not care about supporting token price after already raising funds.
- Asymmetric information — Insiders have knowledge of project progress and upcoming developments that outsiders don’t. They can use this info to strategically time token sales.
Examples of Crypto Dumping Risk
Here are some notable examples of dumping risk causing sharp price declines:
In June 2017, Status raised $100 million through an ICO.
When the SNT token became tradeable, it plunged from $0.55 to $0.03 due to founder dumping.
The Bancor ICO in 2017 raised $153 million.
The BNT token fell from $4 at listing to $1.50 in under a week as investors like Tim Draper sold off their stakes.
After a $232 million ICO in July 2017, Tezos saw its XTZ token drop 50% in early trading due to founders cashing out millions worth of tokens.
ADA coin fell by over 90% in the months after its ICO as its founding team continuously sold off their stakes, depressing prices.
Protecting Against Dumping Risk
Crypto investors have adopted a few strategies to mitigate potential losses from stakeholder dumping:
- Closely analyze tokenomics before investing to identify red flags like very high insider allocations.
- Avoid investing in the ICO stage, and allow some time after listing for initial insider selling to subside.
- Do not put too much capital into small market cap coins with high dumping risk. Diversify across assets.
- Use dollar cost averaging to gradually take a position, rather than buying in all at once.
- Keep contingency cash reserves to take advantage if prices drop precipitously and buying opportunities arise.
- Follow insider and investor lock-up periods closely to anticipate times of heightened dumping risk.
While dumping risk can be damaging in the short-term, the crypto market has shown an ability to eventually bounce back and regain lost ground. Quality projects with strong real-world utility tend to recover over the long-term as adoption increases.
As the crypto space matures, dumping risk may also decline as insider holdings get distributed among more investors. Regulatory oversight around token listings could also constrain early investor selling.
By understanding the dynamics of dumping risk, retail traders can make educated decisions and adjust trading strategies to mitigate risks from stakeholder selling pressure after ICOs.