[ Note: This is probably not news to anyone invested in MDMN, but this was in todayâs NY Times â madmen ]
Penny Stocks Are Booming, Which Is Good News for Swindlers
Retail investors see the tiny companies as the next big opportunity after meme stocks and cryptocurrency. But shares are an easy target for fraud.
By Matt Phillips
New York Times, March 18, 2021
It didnât look like a very promising investment opportunity.
SpectraScienceâs phone number was out of service. So was its website. And it hadnât disclosed financial results since late 2017, when the San Diego medical equipment company reported a quarterly loss â its 12th in a row.
But early this year, SpectraScienceâs nearly worthless shares â priced in hundredths of a penny and too minor to trade on a major stock exchange â sprang to life.
On Jan. 27, their price doubled, with over 900 million shares traded. The next day, amid a flurry of social-media cheerleading, more than 3.5 billion shares of the company changed hands â a volume roughly equal to half that dayâs trading on the New York Stock Exchange. After soaring 500 percent as trading opened, just as quickly SpectraScience collapsed.
Penny stocks â the name given to more than 10,000 tiny companies like SpectraScience â have been around forever, but theyâre booming as small investors flood the market. And this time around, social media is fueling the craze. Whether traded to fend off the boredom of pandemic living or to turn a quick profit, these dirt-cheap but risky shares are another frontier in a world where meme stocks like GameStop gained overnight stardom, Dogecoinmorphed from a joke cryptocurrency to a hot investment and a digital artwork known as an NFT sold for $69 million.
Itâs part of a âmassive surgeâ in retail trading reminiscent of the 1920s, when amateurs flooded into the stock market before the 1929 crash, said Tyler Gellasch, a former Securities and Exchange Commission official who leads the nonprofit Healthy Markets Association.
âThe only relevant historical precedent seems to increasingly be the days before the Great Depression,â he said.
Penny stocks occupy a low-rent district of Wall Street, a world rife with fraud and chicanery where companies that donât have a viable product, or are mired in debt, often sell their shares. Traded on the lightly regulated over-the-counter, or O.T.C., markets, penny stocks face fewer rules about publishing information on financial results or independent board members. Wall Street analysts donât usually follow them. Major investors donât buy them.
But last month, there were 1.9 trillion transactions on O.T.C. markets, an increase of more than 2,000 percent from a year earlier, according to data from the Financial Industry Regulatory Authority, a self-regulatory group that oversees brokerage firms.
The lack of oversight makes penny stocks easy targets for scammers, which has long accounted for their unsavory reputation. But risk can also be a draw for thrill seekers or those who fear theyâve missed a market boom that is creating wealth all around them.
And now itâs easier than ever to get in on these stocks: Commission-free trades and the proliferation of online trading platforms mean small investors donât have to go through a traditional broker.
Because these stocks are so small and lightly traded, a sudden surge of interest can make their prices go berserk. Since the start of the year, shares have soared for companies such as Healthier Choices Management, which operates vape stores; For the Earth, which makes cannabis-based sunscreen; and Garb Oil & Power, which, despite its name, spotlighted its planned purchase of a manufacturer of marijuana pipes in one of its most recent business operation updates. (It was published in 2014.)
âEveryone wants to get rich,â said Jordan Belfort, whose memoir, âThe Wolf of Wall Street,â detailed his debauched life as cheap-stock kingpin, complete with helicopter crashes, sunken yachts and copious quaaludes. âAnd they want to get rich quick.â
Mr. Belfort, now a motivational speaker and writer living in Los Angeles, presided over Stratton Oakmont, one of the notorious âboiler roomsâ that manipulated penny stocks to prey on unwitting retail investors before it went out of business in 1996.
âWe all want to believe in Santa Claus, the Tooth Fairy and Bernie Madoff,â he said.
Just as they were in Mr. Belfortâs heyday, penny stocks remain the backbone of schemes to part newbie traders from their cash. Consider one perennially popular racket: the pump and dump.
âWe all want to believe in Santa Claus, the Tooth Fairy and Bernie Madoff,â said Jordan Belfort, the author of âThe Wolf of Wall Street.âCreditâŠBauer-Griffin/GC Images
First, fraudsters load up on ultracheap shares of a small stock hardly anyone trades. Then comes the pump: They pitch the stock as one with hot prospects, spreading around positive information to push up its price. Finally, thereâs the dump: After the price jumps higher, the perpetrator sells and leaves the new buyers holding a mostly empty bag.
âItâs all just a pool filled with sharks,â said Urska Velikonja, a law professor who studies securities regulation at Georgetown University Law Center. âItâs where the unwary go to get eaten.â
Penny stock booms tend to occur during raging bull markets, when greed abounds. They were hot in the 1980s, when the arrival of cheap, long-distance telephone service gave rise to brokerage firms that specialized in high-pressure, cold-call pitches of worthless stocks.
That was the specialty of Blinder, Robinson & Company, which was led by Meyer Blinder, a New York broker with a flamboyant reputation. In the mid-80s, it became the largest penny stock brokerage in the country. But by 1990 it had been liquidated, and by 1992 Mr. Blinder had been convicted of racketeering and securities fraud. After his conviction was announced, he lunged at a prosecutor, threatening to kill him.
But stock-touting technology changes with the times. Cold-calling went out, followed by faxes and email spam. Today, social media sites like Twitter and Reddit, which powered the rise of GameStop and other meme stocks, are the preferred method for building unwarranted hype.
According to a civil complaint filed this month by the S.E.C., Andrew Fassari of Irvine, Calif., used his Twitter account â OCMillionaire â to pump up the price of Arcis Resources, a company that has not conducted business since at least 2016, but whose stock still trades. Mr. Fassari, regulators said, bought 41 million shares of the company and then posted misleading information, including fictitious emails from the companyâs purported chief executive about expansion plans. Over nine days in December, the share price skyrocketed more than 4,000 percent â to a little over a nickel. Mr. Fassariâs gains were $929,000, according to the agency.
Mr. Fassariâs lawyer, Jessica C. Munk, said he denied wrongdoing. âIt appears Mr. Fassari has been hit with fallout from the GameStop, Robinhood, Reddit controversy,â Ms. Munk said in a statement, including a reference to the Robinhood trading app. She also noted the S.E.C. actionâs âlightning pace.â
Art Hutchinson, a 50-year-old construction services salesman in Fort Worth, has been making bets on penny stocks â companies that he acknowledges are âabsolute garbageâ â for about two years. And the activity he watches closely is increasingly being driven by social media, he said.
âEverybody is on Twitter, whatever, these social media accounts, and theyâre all lying,â he said. âTheyâre preying upon people not doing any research on their own, or not understanding it.â
A 2017 paper from Thomas Renault, a finance professor at the University Paris 1 Panthéon-Sorbonne, analyzed millions of Twitter messages about low-priced stocks. A surge in tweets about a small stock led to big price increases followed by sudden collapses, he found, saying the pattern was consistent with pump-and-dump schemes.
Regulators appear to be taking some steps to tamp down on such activity. Weeks after SpectraScience crashed, the S.E.C. temporarily suspended trading of the stock, citing âpotentially manipulative trading activity.â It was one of nearly two dozen stock tickers sidelined for similarly suspicious trading by late February.
âWe proactively monitor for suspicious trading activity tied to stock promotions on social media, and act quickly to stop that trading when appropriate to safeguard the public interest,â Melissa Hodgman, acting director of the S.E.C.âs Division of Enforcement, said in one announcement.
But current and former regulators say penny stock fraud will remain as long as penny stocks are traded.
âWhatever you do, donât claim victory, because itâll come back,â said Joseph I. Goldstein, a partner at Murphy & McGonigle, a financial services law firm. In the late 1980s, Mr. Goldstein led the S.E.C.âs task force on penny stocks, amid a surge of frauds in the market.
âItâs not going away, basically, because itâs greed,â he said. âI donât think there will be a successful effort to end greed in this world.â
