When the value of a stock skyrockets, its investors may think they have hit the jackpot, but if the stock in question is part of a ‘pump-and-dump’ scheme, investors may, in fact, lose their shirts. Here is how to avoid getting taken by this type of investment fraud.
A penny for your stocks
In the typical pump-and-dump scam, a fraud perpetrator buys shares in an inexpensive, relatively illiquid stock (often referred to as a “penny” stock) whose price will react dramatically when trading volume increases. Then the crook makes false or misleading statements to encourage people to sink their savings into the stock and drive up its price. When it hits a certain dollar amount, the fraudster sells, locking in short-term gains and causing the stock to crash. Investors are left with what often are worthless shares.
This summer, the FBI uncovered an international pump-and-dump scheme that netted its perpetrators $15 million in profits over a five-year period. The criminals bought millions of shares in small, thinly traded companies, then staffed call centers to hype the stocks to senior citizens. The scheme might have continued indefinitely if not for the fact that one of the crooks’ ‘co-conspirators’ was not the greedy stockbroker he claimed to be but an undercover agent.
Hot tips, cold shoulder
As the above case suggests, investment scammers often target seniors with retirement savings to invest. Novice investors who are not familiar with how the stock market works also are popular marks. However, even experienced investors can be lured when offered a ‘hot tip.’
You can help avoid becoming a victim by following some common-sense guidelines. For example, never buy a stock based on an email or telephone solicitation, no matter how compelling the sales pitch. Simply hang up the phone or delete the message.
If you are intrigued by the sound of an investment, do your research to determine whether the company is 1) legitimate and 2) a good investment opportunity. Also pay attention to the stock’s trading volume. The more thinly traded a stock, the greater the potential for fraudulent manipulation.
Too good to be true
The bottom line: when an investment sounds too good to be true, it probably is. If you would like to invest (say, for retirement or other financial goals), but do not know how to pick stocks or build a portfolio, work with a reputable financial advisor. There are no guarantees in investing, but your advisor can help you steer clear of scams and invest only in securities that meet your criteria.