What Is a Pump and Dump Scam and How Does It Work?

Have you ever heard of Pump and Dump schemes? Here’s everything you need to know in order not to become the prey of today’s unpredictable market.

What Is a Pump and Dump Scam?

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Pump and dump is a fraud that happens when prices inflate because of misleading positive statements. This illegal act occurs when investors push their stocks and put a high price on them because of a surge in interest. The fraudsters come in to sell while seeking profits by selling their stocks and dump them on the market.

The scheme is pervasive on the internet; there are messages alerting you about stocks that sell quickly. The new owner of the shares or commodities feels at a loss, and their security prices decrease. Interestingly, the pump and dump scam details always change whenever the scheme takes place, but they still use the same principle “supply and dump.”

The scam always works on low stocks, the ones that are looking for a market. The companies doing this are considered illiquid because of how fast they can convince people with misleading messages. They have a good marketing strategy and trade-in volumes only to interrupt the inflow of new investors because of striking a high price.

How Does It Work?

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The internet has created an excellent platform for this scam to take place. Scammers reach potential investors with false information via spam email or social media. They even formulate press releases and fake news to attract their customers. The same promoters post messages on job boards, chat rooms, and stock message boards to encourage people to buy stocks quickly. As this goes on, they create awareness to get more people.

At this point, the promoter is supposed to “pump.” They will assure people that there are available stocks, and they go ahead to show you the company details. After some time, those unsuspecting investors demand to find out about the target company. They ask for information like the prices of the stocks and the trading volume.

With this in mind, people end up buying shares. Then, the promoters stop advertising the stock. Real investors are left hanging with stock that has a level.

Types of Pump and Dump Scams

There are several ways people have discovered how these fraudsters operate. Through the examples that others have witnessed, let’s look at the types of schemes.

The Classic Pump and Dump Scheme

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It works when the company releases false information about their stocks. The information can include pitches about shares issued on fake releases or telephone calls from someone who claims to have some “inside” information.

The promoters end up attracting people to invest in these practices. A good example has been demonstrated in movies such as “The Wolf of Wall Street” and “Boiler room.” Promoters were able to reach the investors through cold emailing.

“Sorry, Wrong Number” Scheme

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It’s a relatively new method and, interestingly, the scheme blackmails the customers and lie by saying he’s not the investor. They use a telephone call or voice mails and give all sorts of relevant information about stocks to a customer.

When he’s done, he goes ahead to say it was a wrong number, and this gives the customer the urge to know more. The investors get lured into it, and that’s how the fraudsters boost the demand for their stocks.

Boiler Room

It starts with a brokerage company that hires promoters to give misleading information to customers. They approach you with sales tactics that you may not resist. The penny stock is sold to investors through cold emailing hence exiting the market.

The boiler room is where the brokers work in and try to sell a good number of stocks. Once the prices start inflating, the company begins to sell its shares at very high prices.

An Example of Pump and Dump Scheme

Jonathan Lebed

Back in early 2000, the message boards on the internet were used so much; it was the dot com era. One case is of Jonathan Lebed, who bought a lot of penny stocks and used online message boards to advertise them.

He promoted these stocks until the market inflated. Thus, Jonathan Lebed reaped when he started getting huge profits. But he lied to the investors, and when the Securities and Exchange Commission found out, they charged him for duping the public with his schemes. Cases like this strengthened the regulations about such activities and advising general investors.

Worth Noting

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The pump and dump schemes are illegal activity, and people are charged for them. Investors should be aware when a deal is too good to be true. If an unknown number of people give you a stock tip, think twice. Do not run for the “get rich quick” lies and scams. With this in mind, do not opt to invest large sums of money at first.

The chances of it returning considerable profits in a short period are nil. Think about why someone would give you such research information about them. Being aware could save you time and money.

Importantly, technology should help you trace these calls and emails and get more information about them. Before investing, you should check the company’s official reports to find authentic information.

Conclusion

Nowadays, improvement in technology has encouraged these schemes. They are all over the market, and fraudsters keep inventing ways to get to your pocket. They advertise through emails and have become predominant. With such cases, it forced US regulation to launch tighter laws regarding the illegal trade.

Therefore, you should avoid being the victim of such scams by integrating some practices. Carry out your analysis of the situation and ensure the investment is worth it. Research everything you need to know about this false information to stay alert. Beware of the internet, especially social media, as fraudsters can reach you quickly.

Featured image: medium.com