"Pump and Dump" is a type of stock fraud involving the use of false or misleading statements to increase stock prices and then sell the inflated stocks to the public. Stocks of microcap companies, which have low capitalizations and limited assets, are highly vulnerable to “pump and dump” because they can be easily manipulated. Microcap stocks often lack reliable public information about the company and have a limited historical record. Many of them trade on the over-the-counter (OTC) markets such as the OTC Bulletin Board (OTCBB) or OTC Link LLC (OTC Link). OTC markets lack transparency in trading and have lax financial standards.
A typical “pump and dump” scheme begins with stock promoters loading up on stock of a microcap company. The promoters then “pump” the stock by disclosing fake “inside” information of the company and claiming that huge price gains will follow. For example, they may say that the company received FDA approval on its new drug and will soon make a public announcement. Traditionally, “pumping” took place at a “boiler room,” where the promoters made unsolicited calls. Today, the promoters more commonly use the Internet to send unsolicited emails (spams) and newsletters, and post messages on bulletin boards and in chat rooms. If the promotion is successful, people will buy the stock. When the stock price increases, the promoters continue to “pump” the stock, while “dumping” their own stock. As the demand of the stock dries up, the stock price falls and the people who bought the stock lose their money.
Investors should watch for the following warning signs of “pump and dump”:
- promotion of a microcap company as the next hot stock
- “inside” information about a company provided through unsolicited means
- a surge in trading of a microcap company without material public news
- huge return predictions such as “10k could return 25k in 30 days”
- promotion of stocks on the OTC markets.
Investors should exercise caution when taking advice from people they do not know. If an investment opportunity sounds too good to be true, it probably is. Investors should perform due diligence before purchasing any stock by conducting their own research or consulting their investment advisors. Suspicious fraud activities may be reported to the SEC.
For more information, see:
- ”Pump and dump” Schemes, Securities and Exchange Commission (SEC): http://www.sec.gov/rss/your_money/pump_and_dump.htm The SEC describes “pump and dump” schemes and offers steps in avoiding becoming a victim.
- Microcap Fraud, Securities and Exchange Commission (SEC): http://www.sec.gov/spotlight/microcap-fraud.shtml The SEC describes microcap fraud and recommends steps that microcap investors should take.
- Questions and Complaints, Securities and Exchange Commission (SEC): http://www.sec.gov/complaint/select.shtml The SEC accepts reports on suspicious fraud activities.
- How to Spot a Pump and Dump, Forbes: http://www.forbes.com/forbes/2010/0426/investing-pink-sheets-fraud-stock-scam-madoff-spot-pump-dump.html An article offers tips to spot a “pump and dump” and describes a real case.
[Last updated in June of 2023 by the Wex Definitions Team]