On-chain analysis is the process of identifying, inspecting, and continuously tracking transactional data on a blockchain, with the main goal to understand activities and link participants to identifying information.
In risk analysis, an important method used is machine learning to create risk models and risk scores based on the transaction amount, the origin of funds, money flow history and other behaviors. It helps filter down the addresses and transactions to be monitored or continuously tracked.
Clustering is another important method used, that helps to identify exchanges, payment processors, and wallet addresses within the blockchain.
The PlusToken in 2019, the WoToken in 2020. These major cryptocurrency fraud schemes worth billions of dollars have been highly facilitated by the extended anonymity of users within the blockchain-based financial system. Nonetheless, the value of defrauded funds in 2020 reduced by a massive 57% compared to 2019, thanks to improved security systems and infrastructures involving on-chain analysis.
The KuCoin platform had suffered a hack worth $281 million, while it claims to have recovered over 84% of this fund using on-chain analysis.
The importance of on-chain analysis was first seen when a former FBI special agent, Ilhwan Yum, used it to trace 3,760 cryptocurrency transactions from Silk Road servers to Ross Ulbricht, signaling the end of the darknet marketplace. This is the same technology that helped KuCoin recover millions of stolen funds.
Today, on-chain analysis has been an integral method in fighting cryptocurrency crimes with dedicated software tools existing to facilitate AML/CFT compliance.
Blockchain is the technology powering cryptocurrency that separates it from and gives it an edge over legacy systems. Consisting of a digital ledger duplicated and dispersed to multiple computing systems on the cryptocurrency network, blockchain technology ensures that transactions are difficult or virtually impossible to misrepresent or change.
The blockchain is a type of Distributed Ledger Technology and serves as the main backbone of the cryptocurrency financial system. The decentralized administrative system has led to the success of cryptocurrency.
However, there are issues.
Due to the anonymous or pseudonymous existence of the participants in the blockchain process, linking illegality to individuals in the real world has come to be a major concern. New methods of money laundering and terrorism financing activities have been enabled through this technology.
Thankfully, the KYT (Know Your Transaction) AML/CFT policy has proved to be effective and, within the blockchain system, its application is facilitated through on-chain analysis. Thus, on-chain analysis is a crucial tool to make blockchain fraud-free.