I have been commenting on two articles written by others warning readers of Seeking Alpha about stock scams on the OTC Bulletin Board and in the pink sheets, and there seemed to be a lot of interest in how I came across the information in my comments and my conclusions. I thought I'd write a brief article about how to research a possible stock scam and see if there was any interest in my continuing. In my early career as a securities lawyer, I came across a lot of different kinds of scams and scammers, so I am familiar with how they tend to go down.
There are many different kinds of stock scams: pump-n-dump, fraudulent promotions, stock price manipulation, illegal insider trading, selling unregistered securities, etc. Most scams involve multiple kinds. For example, a typical pump-n-dump will also involve fraudulently promoting the stock, manipulating the price up (the pump), illegal insider selling of unregistered securities (the dump).
In this article, I'm going to try to alert the readers as to how to spot a typical pump-n-dump scam.
In a typical pump-n-dump, a company with little or no business prospects is promoted as having enormous potential to generate profits. The idea is to persuade the reader to buy the stock. The promotion takes the form of press release, analyst reports, posts on message boards and social media, etc.
This article is about spotting the pump-n-dump style promotion. If there is enough interest, I'll follow up with the articles on the fraud, the manipulation, the illegal insider selling and the unregistered securities.
Look at the press releases. Look for superlative and emotionally charged words like: "huge," "excellent," "superior," "stupendous."
Look for common lies. Does the company call itself a "leader" in an industry? What are its revenues? What would you guess the industry's revenues are? Could it possibly be a "leader" in this industry? Or does it define the industry so narrowly that it is likely the only one in it or one of only a very few? Or does it say its a "leader" in the kiosk industry and then cite the multi-hundred billion revenue of the hotel industry? Look for a claim that the product is getting "rave" reviews from the industry. Do the company's revenues and revenue growth support that?
Look for a claim that it has a patented or trademarked process. It's pretty easy to get a patent. The patent is only valuable if it does something useful and marketable, and unless and until some third party challenges it and gets it declared invalid. If the patent is on a five-finger optical reading system, that should tell you something. Since one fingerprint is unique, why would anyone want to buy a five-fingerprint reading system?
Look for an independent report by a recognized expert or institution (a doctor, a hospital, an engineer, etc.), which has lots of technical jargon in it. This report (usually purchased with stock) says the patented framis has a remarkable ability to detect all of bioinsciendiary elements of the boongalberrfy, or something that you can't understand. If you break down the technical jargon, you will find that the patented device does do something but whatever the device does is completely useless or otherwise permanently unmarketable.
Look for an analyst report stating that the company is on track to conquer the world. The analyst will be someone you never heard of (unless he's a football star) and from a company you never heard of. If the company he's from has a name similar, but not identical to, a reputable investment bank, you have a bight orange flag. Look for the analyst report to have a disclaimer at the bottom saying, in effect, that it was bought and paid for by the company and is not a recommendation but rather a paid ad. If the disclaimer is a link to another web page, rather than printed right on the report, that's a red flag. If the link can't be clicked because every time you mouse over it a directional overlay appears, like an adobe pdf navigation tool, that's a redder flag. The reason it's done this way is so that the company can copy and paste the "analyst" report into full page ads in The Wall Street Journal, articles on seekingalpha.com and other, similar investor-focused websites, etc., and no one will ever see the disclaimer that it was not an independent analysis but rather a paid pump.
Then look for those ads in The Wall Street Journal and articles on websites like seekingalpha.com and others. The Wall Street journal will tell you that it had no part in the content, but other members of the financial press will just have the word "Ad" or "Advertisement" at the top or bottom of the page. Those placing the ad will make sure the word"Ad" is in small print by writing their promotion in large print.
Now look for more PR and analyst reports that begin "According to The Wall Street Journal," and then recite the bought and paid for BS as though it was written by a Wall street Journal reporter and independently vetted and published by The Wall Street Journal. This is a bright orange flag of certainty that you're dealing with a promotion.
I could write more about other elements you sometimes find, but this should be enough to see if anybody is interested. If so, I'll put more in the comments and follow up with an article on how to research some of the truth.
In closing, I caution you not to rush out and short a stock because it meets the criteria of being a typical pump-n-dump. These stocks can sometimes be driven up to astounding heights because there is no real float and you can get severely burned. I'll cover that later if there is interest.