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What is a pump-and-dump scheme?

On Behalf of | Aug 24, 2023 | Federal Crimes |

Many Florida residents are involved in stock trading, and the laws regarding trading securities can be complex. If you’re going to be engaged in stock trading, it’s important to have a clear understanding of what is and isn’t legal.

Pump-and-dump schemes fall under the umbrella of securities fraud, as a way to artificially increase the price of a stock to make a profit selling shares you already own.

The anatomy of a pump-and-dump scheme

The basic structure of a pump-and-dump scheme is as follows:

  • First, the schemer purchases a substantial amount of some company’s stock.
  • Then, they put out misleading information touting the virtues of that stock, convincing other people to buy the stock, raising its price.
  • Finally, the schemer(s) sell the stock at that elevated price, reaping a profit.

It’s important to note that all elements must be present for a pump-and-dump scheme to run afoul of securities law. Specifically, step two is crucial, as there’s nothing illegal about buying stock low and selling high.

Pump-and-dump schemes generally focus on microcap and small-cap stocks, as it’s easier to move the price of those stocks dramatically with relatively little activity. Those stocks also tend to be traded on less-regulated exchanges.

Pump-and-dump in modern times

Traditionally, pump-and-dump schemes were executed by cold calling and phone calls. However, the advent of the internet has seen the proliferation of numerous pump-and-dump schemes where misleading information is conveyed through message boards or other online forums.

Cryptocurrency is another market rife with pump-and-dump schemes, especially with less prominent new crypto coins. Crypto is particularly vulnerable, given the lack of regulation on the crypto market.

A pump-and-dump scheme is one in which a person distributes misleading information, causing others to purchase a stock, thus pumping up its value before selling for a profit. Pump-and-dumps take place over multiple media, and are particularly prevalent in less regulated environments.