Rajandran R Founder of Marketcalls and Co-Founder Algomojo. Full-Time Derivative Trader. Expert in Designing Trading Systems (Amibroker, Ninjatrader, Metatrader, Python, Pinescript). Trading the markets since 2006. Mentoring Traders on Trading System Designing, Market Profile, Orderflow and Trade Automation.

Pump and Dump Scheme in Stock Markets Explained

1 min read

“Pump and Dump” could be defined as a form of microcap stock fraud that involves inflating the price of an owned stock artificially by means of misleading statements so as to sell the cheaply purchased stock in higher prices. But, as the operators of the scheme “dump” their overvalued shares, the investors looses money with the fall of the price. Stocks that are subjected to “pump and dump” are often termed as “chop stocks”. With the expansion of the internet era, it has now become easier to reach large number of potential investors within small span of time.

pump and dump

 

Pump and Dump schemes may start anywhere on the internet. For instance, it may take place using an e-mail spam campaign through several media channels via fake press release or probably through telemarketing. In such cases of Pump and Dump scheme, the stock broker/analyst often claims to have the “inside news”. Newsletters also claim to have the unbiased recommendations and so does the stock messages.

When a promoter’s campaign to “pump” a stock is successful, it will attract potential investors to purchase the shares of the target company. The increased demand on that particular share and of course the trading volume will convince more number of people to believe the hype and eventually to buy shares.

A modern spin on this “pump and dump” scheme is known as “Hack”. This could be defined where a person purchases penny stock in advance and then uses compromised brokerage accounts in order to purchase even more quantities of that stock. The end result of such case is the price increase that is pushed further by day traders when a quick advance is noticed in the stock. The stock holder then sells off his stock at a premium price.

While talking about “Pump and Dump”, the point that deserves attention, is the “short and distort”, the variant of the pump and dump scam. In this process, instead of first buying the stock and then artificially raising the price of the same, the scammer first short-sells the stock, then artificially lowers the price using the aforementioned techniques. The scammer covers his short position eventually when he buys back the stock at a lower value.

In the recent days, considerable number of ‘pump and dump’ activities in the stock market has come under the scanner of market regulator SEBI. The regulating body suspects certain brokers are luring small investors by these artificial methods of high trade volumes. The pump and dump cases have been found to be quite prominent in the mid-cap stocks, importantly in the infrastructure sector. SEBI is trying to figure out the best possible ways to reduce the ‘pump and dump’ schemes from the stock market.

Besides, figuring out and detecting the possible cases of market manipulation, SEBI is also trying to help out in building linkages between several transactions and allied activities of the networked entities.

With the SEBI’s DWBIS (Data Warehousing and Business Intelligence System), it has become possible to perform analytics on large amount of data and obtain the desired output in little time. SEBI has so far implemented two phases of the DWBIS project, while the third phase is still under testing for implementation. Hopefully, SEBI’s step would considerably reduce the ‘pump and dump’ scheme.

Rajandran R Founder of Marketcalls and Co-Founder Algomojo. Full-Time Derivative Trader. Expert in Designing Trading Systems (Amibroker, Ninjatrader, Metatrader, Python, Pinescript). Trading the markets since 2006. Mentoring Traders on Trading System Designing, Market Profile, Orderflow and Trade Automation.

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