**Disclaimer: The charts and examples used in this article are for illustrative purposes only and by no means show for certain that the individual depicted in the image coordinated a pump-and-dump.
What is a Pump-and-Dump?
A pump-and-dump scheme is a type of investment fraud consisting of deliberate and manipulative actions to boost the price of a stock or security through fake recommendations. The organizers of pump-and-dump schemes have preestablished positions in a company’s stock and sell their positions after artificially creating hype around the stock to create higher share prices.
Pump-and-dump schemes typically target stocks with a low float, low trading volumes, and scarce corporate information. Low float simply means that the stock has a smaller number of shares available for trading. Because of this, the price of the stock can be pushed higher without needing a significant amount buyers.
Social Media Pump-and-Dump Basics
The rise in popularity over the last ten years of social media platforms has created a world in which information is exchanged instantly to hundreds of thousands of people. This instant communication has only made it easier for pump-and-dump organizers to efficiently pump and dump stocks on public exchanges (e.g., OTC, NASDAQ, NYSE).
Twitter and Reddit have become the easiest way for fraudsters to conduct their pump-and-dump schemes. Trading focused accounts with hundreds of thousands of followers on these social media platforms have become known as "Furus." Because Furus typically have such a high number of followers, retail traders that stumble upon their profile automatically develop a false sense of trust for their stock "recommendations."
The pump-and-dump model used by Furus on social media consist of four primary elements: 1) the front load; 2) the alert; 3) the pump; and 4) the dump.
1) The Front Load
Before the Furu tweets out a stock recommendation to their followers, they buy reasonably sized positions in that stock. The goal is to eventually sell these shares at higher prices following the expected artificial inflation in price they will cause. Furus may partake in this front-loading individually or in groups with other Furus.
2) The Alert
The Furu’s alert can take many forms, given the numerous types of social media available, but the core act remains the same: telling others they are making an initial trade after already establishing a position. Some alert by directly announcing they are “buying at x price” and others highlight “news” stock may have and tweet something akin to “Company XYZ had big news,” thus encouraging their followers to buy into the news without having them read the actual headline.
3) The Pump
The Furu’s alert creates fear-of-missing-out (“FOMO”) amongst retail traders, which leads to said retail traders buying common shares of the stock alerted in a very short period of time, resulting in that stock’s price to experience rapid parabolic gains, or “pump.”
4) The Dump
After the stock price is pumped by volume brought in by the artificial hype, the Furu then sells their initial shares at much higher prices without telling their followers – the retail traders that bought the stock in reliance of the Furu’s alert. As the Furu sells their shares, the selling pressure causes the stock price to dump and retail traders engage in panic selling the stock they bought for much lower than they purchased it. Traders that own shares when the stock price plummets often suffer significant financial loss.
Illegality of Pump-and-Dump Schemes
TL;DR – pump-and-dump schemes are illegal under a variety of federal and state level laws and can result in lengthy jail time and/or heavy fines if a person is convicted.
Section 17(A) of the Securities Act of 1933 prohibits anyone involved in selling or offering securities to participate in a scheme to defraud. More specifically, Section 17(A) specifically criminalizes making material misstatements, omitting material facts, or otherwise participating in a scheme to defraud potential purchasers of securities.
Additionally, the U.S. Securities and Exchange Commission’s SEC’s rule 10b-5(a)(c) also bars fraudulent conduct in connection with the transaction of securities. As it relates to pump-and-dump schemes, these rules apply when (a) an individual advertises the stock to artificially inflate its stock price and (b) once that individual sells their shares at the artificially inflated price.
Violations of these provisions may lead to (a) misdemeanor or felony charges; (b) criminal charges; (c) jail or prison sentences; and (d) additional sanctions at the discretion of the SEC. Specifically, violations against the Securities Act of 1933 may carry a five-year prison sentence and a $10,000 (USD) fine. Violations of the Security Exchange Act of 1934, in contrast, may carry fines upwards of $5,000,000 (USD) and a maximum prison sentence of 20-years.
As it relates to social media pump-and-dump schemes, securities fraud is generally defined as the deceptive misrepresentation of information to influence investor decisions on securities and assets. The key legal term here is misrepresentation, which refers to one party falsifying material facts to influence the investment decisions of other parties. Relatedly, the coordinator of the pump-and-dump scheme may purposely omit key information in their advertisement of a stock to artificially inflate its stock price. From a definitional standpoint, any representation that influences speculative investors to purchase shares in a publicly traded company is considered material. Blatantly posting false information (or omitting detrimental information) about a penny stock online in hopes of attracting more attention and ultimately inflating its stock price is illegal under securities fraud.
Technically speaking, there are three types of misrepresentation: (a) innocent misrepresentation; (b) negligent misrepresentation; and (c) fraudulent misrepresentation. The significance of distinguishing between these three types of misrepresentations is that liability of the latter two carry stricter monetary penalties and sentences. In the realm of penny stock pump-and-dumps, it is possible for one to commit innocent misrepresentation – that is, distorting material facts about a stock as one genuinely believes these falsified facts to be true. However, the Court may be inclined to constitute stock pumping as negligent misrepresentation, which is an actionable offense in which one fails to take the measures necessary to ensure accuracy of one’s presented material facts. In other words, if there is literally anything one could have done to verify their due diligence (e.g., send an email, make a phone call), a valid argument can be made that one is liable for negligent misrepresentation. Fraudulent misrepresentation, in contrast, refers to purposely misconstruing material facts knowing that this falsified knowledge would increase the likelihood of a pump.
The legal consequences of pump-and-dump schemes are magnified tenfold if coordinated amongst multiple individuals. Section 371 of the United States Code states that an actionable offense is created "[i]f two or more persons conspire either to commit any offense against the United States, or to defraud the United States, or any agency thereof in any manner or for any purpose.” To prove conspiracy, the following two requirements must be met: (a) an extant agreement between two (or more) people to defraud or commit an offense against America; (b) willful compliance to this agreement; and (c) overt actions committed by the co-conspirators to serve the purpose of conspiring. Individuals who are found guilty of conspiracy may be sentenced to five years in federal prison and monetary fines of up to $250,000 (USD). In sum, coordinated buys amongst multiple individuals for the purpose of stock pump-and-dump schemes can render one criminally liable for conspiracy under section 371 of the United States code.
1. Steven Gallagher (@AlexDeLarge)
On February 25th, 2022, 51-year-old trader Steven Gallagher pled guilty to one count of securities fraud for organizing a pump-and-dump in SpectraScience, Inc. (OTCMKTS: SCIE), a penalty that carries up to 20-years in federal prison under the ESA. The United States Department of Justice (DOJ) claimed that Gallagher communicated false information about SCIE to his 70,000 Twitter followers to induce buying pressure in SCIE and ultimately drive up its stock price.
In December 2020, Gallagher began to collect shares of SCIE with other undisclosed Twitter Furus. Shortly thereafter, Gallagher and his accomplices began to artificially inflate the stock price of SCIE via original tweets and retweets about SCIE’s potential to obtain U.S. Food and Drug Administration (FDA) approval for their products. In other words, Gallagher intentionally made materially false statements about SCIE’s operations to inflate the stock price, which directly constitutes misrepresentation. It was later learned that Gallagher was aware that his assertions of SCIE’s FDA prospects were blatantly false. In direct messages with his followers, Gallagher stated that SCIE was a “shell with no guts.” Gallagher also made materially false statements as he claimed on Twitter that he had yet to sell any SCIE shares when in fact Gallagher had already sold millions of shares after his artificial inflation.
2. Andrew L. Fassari (@OCMillionaire)
On December 9th, 2020, Andrew L. Fassari began purchasing 41,000,000 shares of Arcis Resources Corporation (OTCMRKTS: ARCS). In the next 12 days, Fassari published roughly 120 tweets to his 61,000 Twitter followers that contained fraudulent misrepresentations about the business operations of ARCS. Fassari claimed that ARCS was (a) expanding its marijauna business by opening a 1,000,000 square foot processing facility, and (b) that the operations of ARCS were supported by large investors. Fassari claimed that he had direct email correspondences with Raul Santo, ARCS Chief Executive Officer, to confirm his allegations. However, Santo had no affiliations with ARCS at the time of Fassari’s allegations, nor did Santo and Fassari ever engage in e-mail communications.
The stock price of ARCS had risen 4,000% as a result of the hype Fassari had generated with his fraudulent misrepresentations. Although Fassari sold all of his shares in ARCS for $929,000 (USD) by December 16th, 2020, he fraudulently misrepresented to his followers that he still held a substantial position in ARCS. The Court charged Fassari for violations against section 17(a) of the Securities Act and section 10(b) of the ESA. As a result, Fassari was ordered to pay the following monetary amounts: (a) disgorgement of $457,110 with prejudgment interest of $8,007, and (b) a civil penalty amounting to $195,047.
3. Stock Charts with Furu Alerts
The following charts illustrate speculated the pump-and-dump scheme in action by showing price action before and after a Furu “alert” on twitter. The common theme amongst all the images is the fact that the Furu alert tweet comes at the high of the price action, thus insinuating that after the alert, the dump began and the Furu sold to their followers in mass quantities.
There's no telling how long the SEC will allow this to continue for. Consider the case of @BigMoneyMike6 in which the charges came over two years from the fraudulent conduct. One thing, however, is certain - there will always be fraudulent individuals that try and induce others into falling for their manipulative schemes to fund their lifestyle. Don't fall prey to this vicious and heartless tactic.