What is a Pump and Dump (P&D)?
Pump and Dump (P&D) is a fraudulent scheme that is commonly used in the stock market and has also been seen in the cryptocurrency market. The scheme involves artificially inflating the price of an asset, such as a stock or a cryptocurrency, through coordinated buying activity. The goal of the scheme is to generate short-term profits by tricking other investors into buying the asset at an artificially inflated price.
In a P&D scheme, the perpetrators first buy a large amount of the targeted asset at a low price. They then use various methods to artificially inflate the price of the asset, such as spreading false information about the asset or promoting it through social media and online forums. This leads to increased buying activity, and the price of the asset skyrockets.
Once the price reaches a certain level, the perpetrators sell their holdings, cashing in on their profits. The selling activity causes the price of the asset to drop, leaving the other investors who bought at the inflated price with significant losses.
P&D schemes are illegal and harmful to investors. They are often orchestrated by a small group of individuals who have a large amount of control over the market, making it difficult for individual investors to detect and avoid them.
Simplified Example
A Pump and Dump (P&D) Scheme in finance is like a game of hot potato. Imagine you and your friends are playing a game of hot potato, and one of your friends has a hot potato that they want to get rid of quickly. They start telling everyone that the hot potato is actually a valuable treasure, and convince everyone to buy it from them. As soon as they sell the hot potato, they stop telling everyone that it's valuable and the price drops. This is like a Pump and Dump Scheme in finance.
In finance, a Pump and Dump Scheme is when a group of people artificially inflate the price of an asset, usually a penny stock or a cryptocurrency, by spreading false or misleading information about the asset. They convince others to buy the asset, driving up the price. As soon as the price is high enough, the group selling the asset quickly sells their holdings, causing the price to drop and leaving other buyers with worthless or overvalued assets.
History of the Term "Pump and Dump Scheme"
The term "pump and dump" is believed to have its roots in the realm of penny stocks, denoting a fraudulent tactic wherein individuals artificially inflate a stock's price through deceptive information, only to subsequently sell their holdings at an inflated value. While early references to the term can be traced back to financial newspapers and legal documents from the early 1900s, the exact date of its inception remains uncertain. As mass media and electronic communication gained prominence, "pump and dump" garnered wider recognition. Financial news outlets and journalists played a significant role in reporting on pump-and-dump schemes, thereby increasing awareness of the scam and its detrimental effects. Regulatory and legal documents from government agencies adopted the term to describe and address pump-and-dump activities, aiming to safeguard investors. Additionally, the term proliferated within financial communities and forums, where investors and traders engaged in discussions, sharing information and warnings about potential scams.
Examples
Penny Stock Manipulation: Pump and dump schemes are often associated with penny stocks, which are low-priced stocks that are considered to be high-risk investments. In this type of scheme, the perpetrators artificially inflate the price of the stock by spreading false or misleading information, such as fake news or hype, to trick people into buying the stock. Once the stock price has been artificially inflated, the perpetrators then sell their own shares at a profit, leaving other investors with worthless or significantly decreased value in their holdings. For example, a group of individuals could coordinate a pump and dump scheme for a penny stock by spreading false news about the company's financials and encouraging others to buy the stock. Once the stock price has been artificially inflated, the individuals can then sell their own shares at a profit, leaving other investors with worthless or significantly decreased value in their holdings.
Cryptocurrency Scams: Pump and dump schemes can also occur in the cryptocurrency market, where the perpetrators manipulate the price of a cryptocurrency by spreading false or misleading information. In this type of scheme, the perpetrators purchase a large amount of the cryptocurrency at a low price and then artificially inflate the price by spreading false or misleading information about the cryptocurrency, such as fake news or hype, to trick people into buying the cryptocurrency. Once the price has been artificially inflated, the perpetrators then sell their own holdings at a profit, leaving other investors with worthless or significantly decreased value in their holdings. For example, a group of individuals could coordinate a pump and dump scheme for a lesser-known cryptocurrency by spreading false news about its adoption and encouraging others to buy the cryptocurrency. Once the price has been artificially inflated, the individuals can then sell their own holdings at a profit, leaving other investors with worthless or significantly decreased value in their holdings.
Group Chats and Telegram Channels: Pump and dump schemes can also occur in group chats and Telegram channels, where individuals or groups can coordinate a scheme and spread false or misleading information to trick people into buying a stock or cryptocurrency. In these types of schemes, the perpetrators may use insider information or spread false news to create hype and artificially inflate the price of the stock or cryptocurrency. Once the price has been artificially inflated, the perpetrators then sell their own holdings at a profit, leaving other investors with worthless or significantly decreased value in their holdings. For example, a group of individuals could coordinate a pump and dump scheme using a Telegram channel, where they spread false news about a stock and encourage others to buy the stock. Once the stock price has been artificially inflated, the individuals can then sell their own holdings at a profit, leaving other investors with worthless or significantly decreased value in their holdings.
Related Terms
Ponzi Scheme: A fraudulent investment scheme that promises high returns with little to no risk to investors.
Pyramid Scheme: A fraudulent investment scheme that relies on the recruitment of new members to generate profits for earlier investors.