FX RATES
FX RATES

Robot Crypto Traders Are the New Flash Boys

Cryptocurrency traders call it the “sandwich” maneuver, and nobody wants to be the turkey caught in the middle. Here’s how it works: You spot another trader on the network trying to buy a token, such as Ether or another so-called altcoin. Then you place an order, too. If you are able to get your purchase done before the other trader, you’ll get a good deal on a coin you know there’s demand for. Your purchase pushes up the price the other buyer has to pay. Completing the sandwich, you sell for an easy profit.

This sort of front-running has long been a problem for people trading crypto. It happens on decentralized exchanges that run on a technology called Ethereum, because transactions are visible for a time before they are completed. Computer programs called bots scour the network for such opportunities, and the practice has exploded recently, thanks to the release of a free, open source tool called Flashbots.

Before Flashbots, “there was a high chance that front-running would not happen to you,” says Anton Bukov, co-founder of 1inch, a crypto-exchange aggregator. “Since it was released, a lot of people got access to this, and they started to front-run all these traders.” That’s opened up a debate in the crypto community that’s familiar to anyone who followed arguments about high-frequency traders in equities: Are computerized traders just taking money out of other people’s pockets? Or could they instead be helping the crypto market work better?

The people behind Flashbots say they’re trying to solve a serious problem. Similar to Bitcoin, Ethereum runs on a blockchain, a public digital ledger maintained by computers connected to the internet. Users known as miners earn cryptocurrency by processing transactions on this ledger. Transactions aren’t instantaneous—instead, they get pooled and then processed by miners in chunks called blocks. Miners have the power to decide which transactions in a block go first. So they can potentially make front-running trades themselves, or they can sell the chance to someone else, by giving priority to orders that promise a higher transaction fee. “We haven’t even scratched the surface of shenanigans miners could be up to,” says Nic Carter, co-founder of researcher Coin Metrics.

Flashbots doesn’t eliminate the shenanigans, but it tries to make them “democratic, distributed, and transparent,” in the words of Phil Daian, a Ph.D. student at Cornell Tech who’s one of the tool’s creators. He’s also the co-author of an influential paper that brought wide attention to the problem of crypto front-running and miners’ incentives to allow it. It was titled “Flash Boys 2.0,” in a nod to the Michael Lewis bestseller about high-frequency stock traders who many complained used front-running tactics.

Flashbots essentially makes a market out of cutting in line. Its auction feature lets anyone bid on a position in the queue, and miners pocket a fee from the winner. Bringing this activity out in the open and making it more orderly, the system’s creators say, can reduce strain on the Ethereum network and eliminate miners’ incentive to try dodgier tactics. Flashbots can also be used to prevent getting front-run: Traders using 1inch, for example, can use it to pay a miner to ensure their transaction gets done at the expected price.

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