Pump & Dump - Penny Stock Scams

Supply, Demand and Market Sentiment:
All stocks are traded on prices determined by ‘supply and demand’. In an ideal world, quality stocks would be in greater demand and trade at a higher price than lower quality stock. In reality, stocks are subject to market sentiment, rumours, media attention or even the words of a well respected, seasoned investor. This can have positive or negative consequences for the stock price.

The Pump:
Exactly that, stock prices are pumped up to unrealistic highs. It could be rumours of a new contract or profits, a newspaper column with a gleeming 'buy' recommendation or just lies that spread the investment world. Consequentally, all markets and all stock are at risk and subject to false information, spread deliberately to manipulate share prices. Why someone want to do such a thing? Easy, to make money.

One of the most common forms of market manipulation that affects Penny Stock is called ‘Pump and Dump’ an illegal activity with underhand tactics. Here’s how it works…

Leaked information and rumours start to spill across the internet, newsletters, email inboxes and forums receive a trickle of information that Company A is a ‘hot penny stock’. Glowing reports on its financial status, that it has cracked a new market and its prospects are bright start to spread. It might feature in the newspaper, on the television or an analyst might recommend it.

Investors start to pump their money into the company pushing share prices up as the supply dwindles and demand goes up. The stock price is slowly pushed up to higher and higher prices, they are Pumped Up, all on the basis of false or hyped information.

The Dump:
With shares trading at a premium, the fraudsters sell their holdings as the share price peaks, making a killing on the shares they originally bought for next to nothing. With no solid fundamentals or reason for the stocks to trade so highly the share prices falls back to realistic levels. The investors have paid a premium for a share worth next to nothing.

The final kick comes from the fact that, in this smaller market these stocks are less ‘liquid’. Unwanted and unloved the stock holders have little change of selling the stock on and are left holding them. They have essentially lost all their money.

How Big is the Scam?
The Financial Services Authority estimates that losses at £200 million per year (close to $4 million) in the UK alone. This scam is global and with so much money involved, industry spokesman believe it impossible to eradicate.

Avoid Pump and Dump Scams:

1) The Source
Who and what is the source of information. Any spam email are likely to be Pump and Dump scams. And because you do not contact the person who sends the email (you buy the stock yourself however you normally trade) the scams are hard to trace and shut down. If a broker you do not know or from an offshore location, ask yourself why they are promoting it.

2) Find out Where the Stock is Traded:
Penny Stock and Micro Caps are not traded on any major exchange. As a result, the rules and regulations around the company and the information they disclose is often limited and hard to come by. If the stock is traded on the Pink Sheets or on the OTCBB (Over the Counter Bulletin Board), then chances are it is a Penny Stock.

3) Do your homework:
Any rumours you hear or any offers to buy stock should be checked independently with your own research or through a broker you already know and trust. Carry out some fundamental and/or technical analysis on the stock. Look at media reports (always questioning the source) and see if you can verify the claims.

4) Watch for Boiler Room tactics:
Featured in the Vin Diesel film ‘Boiler Room’ – these high pressure sales tactics usually revolve around persistence and creating a ‘boiler room’ feeling. Any broker who is pushing for you to buy before the ‘opportunity of a lifetime’ passes is likely to be a part of a ‘Pump and Dump’ scam.

Remember there will always be another opportunity. Use your gut instinct, if something doesn’t feel right, it usually isn’t. This course is high recommended and has great video showing you what you'll learn.