Pump and Dump Schemes: How to Spot and Avoid These Online Scams

What Does Pump and Dump Mean? 

Pump and dump schemes are a deceptive form of investment fraud that have found new life in the digital age. 

But what is a pump-and-dump scam, exactly? At its core, a pump-and-dump scheme involves artificially inflating the price of a stock (often a penny stock) through false or misleading statements, then selling off shares at the inflated price. 

These scams have become more and more common on social media platforms and online forums, where fraudsters can easily reach a wide audience of potential victims. 

Understanding what “pump and dump” means and how to recognize these schemes is crucial not just for investors, but anyone active on social media.

Why Do People Fall for Pump and Dump Schemes?

Ever wondered why people fall for pump-and-dump scams? It’s not just about greed – there are powerful psychological factors at play. 

FOMO

In the same way you fear that other people’s trips, cars, and pickleball skills are better than yours, FOMO is also a major driver when it comes to getting rich quick. 

When you see someone–maybe even someone you know–making quick and easy profits, it seems so doable that you might find it hard to resist the urge to jump in. Social media is really good at amplifying this effect, creating a sense of urgency and excitement around certain stocks or cryptocurrencies.

Trust in online communities also plays a significant role. We tend to trust people we interact with regularly, even if it’s just online. Scammers exploit this by building a presence in online forums and social media groups, gaining trust over time before launching their scheme. This false sense of community can lead people to lower their guard and make hasty decisions based on “hot tips” from seemingly trustworthy sources.

Anatomy of a Modern Pump and Dump Scheme

Understanding what a pump-and-dump scheme is involves recognizing its two main phases and how social media plays a role.

The “pump” phase: Creating hype

In the pump phase, scammers start by acquiring a large number of shares in a cheap, often obscure stock. They then begin an aggressive campaign to hype up the stock, using social media posts, online forums, and even fake news websites. They might claim the company is about to release a groundbreaking product or be acquired by a larger firm. The goal is to create buzz and drive up the stock price.

The “dump” phase: Cashing out

Once the hype has pushed the stock price up, the scammers move to the dump phase. They sell their shares at the inflated price, making a substantial profit. As they sell, the stock price typically plummets, leaving other investors with significant losses.

How social media amplifies the scam

Social media platforms have become a powerful tool for pump-and-dump schemes. They allow scammers to reach a vast audience quickly and create the illusion of widespread interest in a stock. Viral posts, trending hashtags, and even paid influencers can all be used to spread misinformation and fuel the hype.

Red Flags: Spotting Pump and Dump Schemes Online

Knowing what pump and dump means isn’t enough – you need to be able to spot the warning signs. Here are some red flags to watch out for:

Suspicious social media posts and promotions

Be wary of posts that excessively promote a particular stock, especially if they come from accounts you don’t know or trust. Look out for coordinated campaigns where multiple accounts are pushing the same stock.

Claims of “inside information”

Pump-and-dump scams often involve claims of insider knowledge about a company. Remember, trading on inside information is illegal. If someone is freely sharing such information online, it’s likely false.

Pressure to act quickly

Scammers often create a sense of urgency, claiming you need to buy now before you miss out. This pressure tactic is designed to make you act before you’ve had time to research properly.

Unsolicited investment advice

Be skeptical of investment advice from strangers, especially if it arrives unsolicited. Legitimate financial advisors don’t typically promote specific stocks to random people online.

Also, if your aunt randomly reaches out with a link for you to check out…don’t click that link. Someone has most likely hacked her account to spoof you.

Cryptocurrency Pump and Dumps: A New Frontier for Scammers

The cryptocurrency market has become a fertile ground for pump-and-dump schemes, thanks to its relative novelty, high volatility, and often lax regulation. These schemes in the crypto world operate similarly to their stock market counterparts, but with some key differences that make them particularly dangerous.

How crypto pump and dumps work

1. Target Selection: Scammers often choose lesser-known altcoins or tokens with low market capitalization and liquidity. These are easier to manipulate than established cryptocurrencies like Bitcoin or Ethereum.

2. Coordination: Organizers use private messaging apps like Telegram or Discord to coordinate their efforts. They create groups, sometimes with thousands of members, to execute the pump.

3. The Pump: At a predetermined time, the group starts buying the chosen cryptocurrency en masse, causing a rapid price increase. This sudden spike attracts attention from other traders and algorithms.

4. Social Media Hype: Simultaneously, participants flood social media platforms with posts about the coin’s potential, creating awareness and excitement among other investors.

5. The Dump: Once the price has risen significantly, usually within minutes, the organizers and early participants sell their holdings, causing the price to plummet.

Why crypto pump and dumps are prevalent

Several factors contribute to the prevalence of these schemes in the crypto space:

• 24/7 Trading: Unlike traditional stock markets, cryptocurrency markets never close, allowing schemes to be executed at any time.
• Lack of Regulation: Many cryptocurrencies operate in a regulatory gray area, making it harder for authorities to intervene.
• Anonymity: The pseudo-anonymous nature of many cryptocurrencies can make it difficult to trace scheme organizers.
• Rapid Price Movements: The volatile nature of crypto prices makes it harder to distinguish between legitimate rallies and manipulated pumps.

Protecting yourself

To avoid falling victim to crypto pump and dumps:

1. Be wary of coins experiencing sudden, unexplained price surges.

2. Research thoroughly before investing in any cryptocurrency, especially lesser-known ones.

3. Be skeptical of social media hype and “guaranteed” returns.

4. Avoid groups or channels promoting coordinated buying events.

As the cryptocurrency market matures, regulators are increasingly turning their attention to these schemes. However, investors must remain vigilant and prioritize due diligence in this volatile arena.

Protecting Yourself from Online Investment Scams

Knowing what a pump-and-dump scam is helps, but protecting yourself is crucial. Here are some strategies to stay safe:

Do your own research 

Never invest based solely on tips or recommendations from others. Take the time to research the company, its financial health, and its market position. Look for credible news sources and official company reports.

Be skeptical of viral stock tips

Just because a stock tip is trending doesn’t mean it’s legitimate. Be especially cautious of penny stocks that suddenly gain attention. Remember, pump-and-dump schemes often target these low-priced stocks.

Use privacy settings to limit exposure

Adjust your social media privacy settings to control who can see your posts and send you messages. This can help reduce your exposure to unsolicited investment advice and potential scams.

Verify information sources

Always check the credibility of your information sources. Look for established financial news outlets and be wary of unfamiliar websites or social media accounts that heavily promote specific stocks.

Remember, these kinds of scams thrive on hype and urgency, often spreading through social media and online forums. By staying vigilant, doing your own research, and approaching viral stock tips with skepticism, you can protect yourself from falling victim to a pump-and-dump scheme. 

Frequently Asked Questions

What is a pump and dump scheme an example of?

A pump and dump scheme is a type of securities fraud where scammers artificially inflate the price of an asset—often a low-value stock or cryptocurrency—to lure in buyers, then sell off their holdings at the peak, leaving others with losses.

How do pump and dump schemes work?

In a pump and dump scheme, fraudsters promote a stock or crypto asset, creating hype and driving up its price. Once the price is high due to increased demand, the scammers sell their shares, causing the price to crash and leaving other investors with losses.

What is a real-life example of a pump and dump?

One real-life example is the 2021 GameStop incident, where social media hype drove up the stock price. While not all who bought GameStop had fraudulent intentions, some leveraged the hype to sell at a profit, leaving late investors with losses once the price fell.

How to protect yourself from a pump and dump scheme?

To avoid pump and dump schemes, be wary of stocks or cryptos with sudden price surges based on social media or online forum hype. Always research the asset’s fundamentals and avoid investing solely based on promotional claims.

How long do pump and dumps usually last?

Pump and dump schemes are typically short-lived, lasting from a few hours to a few days. The inflated price collapses once the scammers sell off their shares, often leading to a rapid drop.

What is the opposite of pump and dump?

The opposite of pump and dump is a “buy and hold” strategy, where investors purchase assets based on long-term growth potential, holding them to gain value over time rather than seeking quick profits from artificial inflation.