A pump-and-dump scam is the illegal act of an investor or group of investors promoting a stock they hold and selling once the stock price has risen following the surge in interest as a result of their endorsem*nt. Here, we take a closer look at how pump-and-dump schemes work and how to avoid them.
Key Takeaways
Pump-and-dump is a scheme that attempts to boost the price of a stock through recommendations based on false, misleading, or greatly exaggerated statements.
The favored medium of communication for traders involved in pump-and-dump is social media platforms or anonymized messaging apps like Telegram and Discord.
Promoters of the scheme will then begin to coordinate rumors, misinformation, or hype in order to artificially increase interest in the security, driving up its price.
Then, once the price of the stock has been increased sufficiently by unsuspecting marks, the promoters then sell the stock at high prices.
Pump-and-dump schemes were traditionally done through cold calling. But with the advent of the internet, this illegal practice has become even more prevalent. Fraudsters post messages online enticing investors to buy a stock quickly, with claims to have inside information that some development will lead to an upswing in the share's price. Once buyers jump in, the perpetrators sell their shares, causing the price to drop dramatically. New investors then lose their money.
These schemes usually target micro- and small-cap stocks, as they are the easiest to manipulate. Due to the small float of these types of stocks, it does not take a lot of new buyers to push a stock higher.
The stock is usually promoted as a "hot tip" or "the next big thing" with details of an upcoming news announcement that will "send the stock through the roof". The details of each individual pump-and-dump scam tend to be different but the scheme always boils down to a basic principle: shifting supply and demand. Pump-and-dump scams tend to only work on small and micro-cap stocks that are traded over the counter. These companies tend to be highly illiquid and can have sharp price movements when volume increases. The group behind the scam increases the demand and trading volume in the stock and this new inflow of investors leads to a sharp rise in its price. Once the price rise has been formulated, the group will sell its position to make a large short-term gain.
An Example of a Pump and Dump
During the summer months of the stock below, a pump-and-dump scheme was initiated by using a "wrong number" scam. A message was left on victims answering machines that talked of a hot stock tip and was constructed so that the victim would think that the message was an accident.
As seen in the above chart, the price rose from around $0.30 to nearly $1.00, a more than 200% increase in a one-week period. This drastic increase was seen along with an equally large increase in volume. The stock had seen an average daily trading volume before the price increase of less than 250,000, but during the scam, the stock traded up to nearly one million shares on a number of trading days. The unsuspecting investors would have bought into the stock at around $1.00. As seen above, it fell to around $0.20, an 80% decline in value for those unfortunate investors.
Pump-and-dump schemes usually target micro- and small-cap stocks or new asset classes like cryptocurrencies, which are relatively illiquid and, therefore, more easily manipulated.
The Bottom Line
Always keep this investment caveat in mind: "If it's too good to be true, it probably is." If someone you don't know gives you a stock tip, stop and think about why they would be so willing to give you such information. Do not think you can make a large and quick investment return because it's unlikely to happen. It's also vital that you do your own research about any investment. This should help you avoid being duped by such pump-and-dump scams.
In a pump and dump scheme, fraudsters typically spread false or misleading information to create a buying frenzy that will “pump” up the price of a stock and then “dump” shares of the stock by selling their own shares at the inflated price.
Stratton Oakmont. In the early 1990s the penny-stock brokerage Stratton Oakmont artificially inflated the price of owned stock through false and misleading positive statements in order to sell the cheaply purchased stock at a higher price.
Pump-and-dump is an illegal scheme to boost a stock's or security's price based on false, misleading, or greatly exaggerated statements. Pump-and-dump schemes usually target micro- and small-cap stocks. People found guilty of running pump-and-dump schemes are subject to heavy fines.
“Pump and dump” means exactly what it sounds like. Instead of letting your baby drink the breast milk you make during a certain time, you use a breast pump to squeeze milk from your breast and collect it.You then dispose of that milk, often by “dumping” it out in a sink.
In short, when you pump and dump milk, it doesn't remove substances from your breastmilk and should only be used if you want to stick to your pumping schedule to maintain milk supply, or if you need to relieve full breasts for your own comfort.
Use technical analysis to identify unusual price movements.
Using charts and indicators, you can analyze an asset's price and volume data and identify unusual patterns or trends. For example, a sudden price increase or unusually high trading volume may indicate the existence of a pump-and-dump scheme.
If a mother decides to express or pump milk within two hours (per drink) of consuming alcohol, the mother can discard the expressed milk. This is known as pumping and dumping. Expressing or pumping then discarding milk after drinking alcohol does not reduce the amount of alcohol in the mother's milk more quickly.
Those who bought into the hype and purchased the stock at inflated prices typically face substantial losses when the stock price crashes. These schemes undermine confidence in the financial markets, making legitimate investors wary of potential fraud.
2. Enron: Enron was a large energy company that was involved in a massive accounting fraud in the early 2000s. The company's executives artificially inflated the company's stock price through false and misleading statements, while secretly selling their own shares.
In a pump and dump scheme, fraudsters typically spread false or misleading information to create a buying frenzy that will “pump” up the price of a stock and then “dump” shares of the stock by selling their own shares at the inflated price.
Drowsiness or Lethargy: If your baby seems excessively sleepy or lethargic, it could be a sign of alcohol exposure. While babies naturally sleep a lot, unusually prolonged periods of drowsiness might indicate alcohol's sedative effects.
(transitive, slang) To have sex with a partner on a single occasion, without intention or prospects of further contact, or engaging in a serious relationship.
People running a 'pump and dump' often use social media and online forums to create a sense of excitement about a stock or to spread false news about the company's prospects. This excitement and interest artificially drives the price up as they lure investors.
Pump and dump schemes are a nasty breed of crypto scams promising ridiculously high returns. These scammers leverage psychology to trap victims, playing on their emotions by dangling a carrot (read: “Get rich quick”). The victims often take the bait out of their fear of missing out (FOMO).
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