Liquidity Pool distribution to detect Rug Pulls
In a previous article, we explored the liquidity pool (LP) distribution as a way to detect potential rug pulls. By scrutinizing LP token distribution among holders at a pool's inception and over its lifespan, we can identify red flags such as high liquidity concentration, sudden withdrawals, or large liquidity drains indicators of a potential rug pull.
In this analysis, we aim to study the number of LP token unique holders over time since the creation of the pool to date across all the pools created in the base network. This is an intent to have a sense of the type of pools being launched and their adoption overtime. A larger number of unique holders suggests decentralization, reducing the risk of concentrated ownership and potential manipulation. Additionally, a steady increase in unique LP token holders could indicate growing trust and adoption of a pool.
The Data Set.
For this analysis we selected the pools created in the month of September of 2024 in the base network via Uniswap V2 DEX. We chose this network because it is a prolific blockchain in terms of the number of daily pools being created compared with other EVM blockchains. By selecting the month of September, we gave the pools created in this period enough time, at least two months to change their initial liquidity distribution. To get the data we used Dune Analytics.
Holders Over Time
A liquidity pool is a collection of tokens, typically a pair, locked in a smart contract deployed via a decentralized exchange (DEX) like Uniswap or Raydium. This smart contract manages the pool's liquidity, enabling functions like token swaps, liquidity provision, and withdrawals, all without central authority.
When a pool is created, an equivalent value of two ERC-20 tokens (e.g., ETH and a new token) is deposited as liquidity. Often, the creator, as the initial liquidity provider, owns 100% of the LP tokens and thus has full control of the pool. To withdraw liquidity, the LP tokens must be returned ("burned") to the smart contract, unlocking the corresponding assets. Over time, additional liquidity providers may join, altering the LP token distribution. This is an example:
Let’s assume we analyze a newly created liquidity pool pair, "XYZ/ETH".
Week 1. The pool is created. One holder owns all the LP tokens.
Week 2. Two more users are providing liquidity, now we have three LP token holders including two EOA and one smart contract.
Week 3. Holder 0x789 returned his LP tokens and the address 0x999 is now a liquidity provider with 5% of the shares, the address 0x789 returns his LP tokens.
The address 0x123...abc now holds 70% of the liquidity. The pool has had four holders so far
Week 3 Holders 0x789 and 0x999 now have zero LP tokens. Address 0x123...abc controls 95% of the liquidity. This high concentration suggests the risk of a rug pull.
In this simple example, we observed a total of four holders over time.
Exploration of september pools
To evaluate holder dynamics over time, we analyzed liquidity pools created on Uniswap V2 during September. We categorized LP token holders as either smart contracts or externally owned accounts (EOAs). Here is the base query link for Dune Analytics, if you’d like to explore further.
During September, a total of 92,012 pairs were created on the Base network. The graph below categorizes the pools by the number of holders each has had since its creation to date and shows the percentage of pools with 0, 1, 2, and 3 holders.
Pools with No Supply and no holders: 3,763 (4%)
These pools never had liquidity added, likely due to poor design, abandonment, or lack of incentives. While they pose minimal direct risk, a sudden addition of liquidity could signal a rug pull in progress. The pool might exist on the blockchain but serves no real purpose.
Pools with One Holder: 12,304 (13%) - 79% of the pools have a holder of type Smart Contracts, 21% of type EOA.
Pools with a single EOA as the LP token holder pose significant risks due to centralized control. This often occurs when the pool is created, and the minted LP tokens remain solely with the deployer or a designated EOA address.
In some cases LP tokens are transferred to a smart contract. This scenario involves the minted LP tokens being sent directly to another smart contract. While a smart contract holding LP tokens can be used for legitimate purposes, such as token launches or controlled liquidity, it also introduces significant risks. It is crucial to ensure that such smart contracts are audited, transparent, and that users are aware of the potential centralization and manipulation risks associated with these pools.
Pools with Two Holders: 74,580 (81%)
A majority of these pools (61%) showed activity only briefly, with LP tokens minted and burned within a single day. Such behavior is indicative of rug pull schemes where liquidity is added and removed rapidly. The remaining pools still pose risks due to limited holder diversity.
Pools with More than Two Holders: 1365 (1.5%)
While these pools appear more diversified, they are not immune to manipulation. Some schemes involve multiple addresses acting in coordination to create a false sense of decentralization.
Most of the pools created during September had only two holders. Moreover, 98% of all pools have had two or fewer holders over time, highlighting a significant lack of diversification and incentives to provide liquidity. Such pools are highly vulnerable to rug pulls and other malicious activities. In fact, as observed, among pools with two holders, 45,661 are suspected to have already been involved in rug pull schemes, as their liquidity was removed in less than a day after their first minting event.
Key points.
Centralized Control: 98% of pools created in September have had two or fewer holders to date, highlighting a lack of diversification. Such pools are highly vulnerable to rug pulls and other malicious activities.
Short-Term Focus: Many pools reflect speculative projects with no intent to provide real value or incentivize liquidity.
The Misuse of Smart Contracts: While smart contracts can lend legitimacy to a pool, they are also exploited to mislead users. Transparent auditing and verifiable use cases for these contracts are essential.
Pools with Multiple Holders Still Carry Risk: Even pools with more than two holders (only 1.5% of the total) are not risk-free. Coordinated schemes involving multiple addresses can falsely project decentralization to deceive investors.
Combine Multiple Indicators: LP token distribution analysis is a crucial indicator but not sufficient on its own. It is important to evaluate additional factors, such as team transparency, token utility, liquidity-locking mechanisms.