In an ever-evolving regulatory environment, trading firms have an obligation to be aware of the market manipulation tactics bad actors can use to try to steer the market in their favor.  

With trading regulators observing trading firms with even greater scrutiny than ever, wash trades continue to be a key area of concern.  

But what is wash trading? What danger does wash trading pose to firms and the economy as a whole? And what strategies and technologies can compliance teams adopt to overcome it?  

Wash Trading Explained

Wash trading is a market manipulation tactic in which a trader buys and sells the same security to create the illusion of heightened market activity. This artificially generated volume can mislead other market participants by suggesting increased demand or interest. Wash trading can distort market signals and, in turn, influence the perceived value of a security. It is often carried out by a single party or through collusion between traders and brokers to feed false information into the market without changing the trader’s market position or incurring real risk.  

Common methods include: 

• Simultaneous Buy and Sell: Traders buy and sell the same security at (or near) the same time and price.  
  
• Multiple Accounts: The use of multiple accounts to buy and sell the same security, creating the appearance of more market activity. 
  
• High-Frequency Trading: Algorithms can be used to execute wash trades even more quickly and efficiently. 

Wash Trades in Crypto and Traditional Markets

Wash trading exists across asset classes, but the crypto market presents unique vulnerabilities. In traditional markets, regulatory oversight and surveillance systems make wash trades easier to detect and penalize. In contrast, many crypto exchanges operate with limited oversight, creating an environment where wash trades can go unchecked. Further, these wash trades are systematically used to inflate exchange volume for marketing purposes. 

A Forbes study of 157 cryptocurrency exchanges found that over half of reported Bitcoin trading volume may consist of wash trades, raising big concerns about market integrity. The tech-driven nature of crypto trading, where bots, algorithms, and automated strategies dominate further increases the risk of manipulation. 

Additionally, the 24/7 trading cycle of crypto markets offers more windows for illicit activity compared to traditional exchanges with set trading hours. As regulators begin to catch up, efforts to curb wash trading in crypto are ramping up, but challenges remain due to the decentralized and fast-evolving nature of the space. 

The Effect of Wash Trades and How to Combat Them

Wash trading undermines the integrity of financial markets by distorting the signals investors rely on to make informed decisions. Transactions generated by wash trades can create the illusion of legitimate market activity and obscure the true supply and demand for a security.  

This manipulation makes it more difficult to determine an asset’s fair value and may damage overall market transparency. 

Regulators closely monitor wash trading activity, and firms found to be executing or allowing wash trades, whether through intent or inadequate controls, can face significant penalties and lasting reputational damage. 

To keep up, compliance teams are leveraging technology to help quickly detect a potential wash trade and respond to irregularities. Wash trading is one of the more persistent challenges for compliance teams when it comes to both identifying and filtering out false positives that can overwhelm analysts and slow down reviews. 

Technology like Surveyor empowers firms with advanced surveillance technology that analyzes order and trade data to quickly identify manipulative behaviors like wash trading and cross trades. By leveraging deep analytics, Surveyor helps reduce false positives and delivers precise detection of suspicious trading activity. 

Our platform supports monitoring of complex trading patterns, including activity across related accounts and high-frequency trading strategies. Configurable alerts provide surveillance teams with the actionable insights needed to investigate and respond effectively. 

Want to see how Surveyor is helping firms enhance their trade surveillance? Let’s set up a quick demo. Contact us here.