Understanding Flash-Loan-based Wash Trading

Flash Loan, a popular lending service in the decentralized finance (DeFi) ecosystem, allows users to borrow a large number of virtual assets without any collateral. It can be leveraged to support many financial activities (such as arbitrage, collateral swap, self-liquidation, etc.), but unfortunately, it is often abused for malicious intent. One example of abusing flash loan servicing is to simultaneously sell and buy the same crypto currency on the same exchange to mislead the market, aka wash trading. It can manipulate the crypto currency market at a very low cost (anecdotally average around 0.033 ETH gas fee for each transaction on Ethereum mainnet), thereby dramatically damaging the stability and fairness of the market. More seriously, attackers can amplify the market impact by borrowing more assets from Flash Loan platforms. Until now, there has been little attention paid to Flash-Loan-based wash trading, but meanwhile, we have started to witness significant wash trading activities using Flash Loan. In this research, we analyze the properties of Flash-Loan-based wash trading in detail and propose a heuristic-based detection method. The real-world Flash Loan transaction data from Ethereum is used to verify our proposed detection method and more than 6,000 wash transactions were found. Moreover, we analyze the relationship between wash transactions and fluctuations in the price and volume of targeted assets. Finally, we evaluate the cost difference between traditional wash trading and Flash-Loan-based wash trading to reveal the attackers' motivation.

Our work reveals that some metrics, like trading volume, widely used by investors when buying assets in traditional finance, become less believable in today's DeFi market largely since there exist low-risk ways of amplifying the effects of market manipulation activities. This research has shed light on the urgency of regulating the emerging DeFi market and provides insight into how to formulate more effective regulations for the DeFi market.