Pump and Dump - Fradulent Trading Activity

Definition of Pump and Dump

Pump and dump is an old phrase used in the stock market to categorize illegal activities where a stock's price is inflated by a group of investors only to sell it for a quick profit.  The price gains on a pump and dump are extreme and can range from 25% to 200%+.  This process of playing the market is usually carried out on penny stocks with light volume.

Methods for Pump and Dump

Years ago the pump and dump method was carried out by cold calls.  A group of manipulators would purchase large sums of shares at low prices, then cold calls high net worth individuals and/or unsuspecting investors to build buzz around the stock.  The pump and dumpers would convince these traders to buy a thinly traded stock and tell the investor that the stock is a hot pick for the very short-term.  This would lead to a number of investors placing large bets on a virtually unknown stock thus pushing the price up.  This is step one in the process, which creates high volume and large percentage gains for the stock.  Step 2 begins onces the overall market and potentially a news syndicate will make mention of this action, which will only drive the price of the stock higher.  Step 3 and final phase of this process occurs once the small group of manipulators sell their stock at these lofty prices, thus leaving everyone else holding the bag. 

With the growth of the internet, manipulators are now able to execute sophisticated schemes via stock message boards and viral marketing campaigns.  This gives a group of manipulators far more reach in terms of targeting investors, as well as the anonymity that comes with using the internet.