One of the most important things for young people to learn is how to invest their money properly. A savings account alone will not come close to building the nest egg of wealth you need for retirement! As soon as you can afford it, you need to put disposable income into monthly investments in stocks, exchange-traded funds (ETFs), and mutual funds that are tax-advantaged (part of your IRA or 401K). Unfortunately, many people get distracted from proven strategies of regular investing and try to “get rich quick” by taking the advice of investors who appear to be extremely successful.
The Securities and Exchange Commission (SEC) just busted a group of social media influencers allegedly scamming their followers. These investing influencers had attracted a large following by flashing glimpses of a glamorous lifestyle, implying that those riches had been garnered by savvy investing. Instead, prosecutors say, the “savvy investing” was simply a pump-and-dump scheme using up to 1.5 million social media followers!
Pump-and-Dump Scam Explained
One reason to be wary of investing influencers and their “hot stock” tips is the chance that it could simply be a pump-and-dump scam. In this common investing scam, fraudsters convince a large group of investors to buy lots of shares of a specific stock, usually by declaring or suggesting that they have reliable information that the stock is a great buy. As the investors buy the shares, its value rises based on the laws of supply and demand. The fraudsters, who already own many shares of the stock, wait for its value to increase considerably…and then sell. The share price collapses immediately afterward, leaving a large group of investors empty-handed. The fraudsters, who had bought shares before engaging in their scheme, are now rich because they sold when the share price was at its peak.
Because pump-and-dump scams require many victims, social media platforms are widely used by those who wish to perpetrate this type of market manipulation. While not all, or even most, self-proclaimed finance and investing gurus on Tik Tok, Twitter, Reddit, and other social media sites are fraudsters, it is important to do your own research before making any investment.
Signs That a “Hot Stock” Tip May be a Pump-and-Dump Scam
Pump-and-dump scams almost always involve penny stocks or other low-cost investments. It is only easy for fraudsters to make a decent profit if the value of the stock is already low and can rise quickly on a moderate level of buying. A giant corporation like ExxonMobil (XOM) or Amazon (AMZN) has far too many shares to be buoyed by a common pump-and-dump scam. If someone is suddenly hyping a brand new penny stock, be cautious.
While some penny stocks may legitimately take off because the corporation has made a breakthrough, be wary if the hyping of the stock is flimsy on evidence. Most pump-and-dump scams rely on exaggerated claims of breakthroughs without citing reliable sources. Fraudsters may try to imply that such information is still secret from the public, which implies that insider trading is afoot. Be skeptical of any investing influencer claiming that they have inside knowledge of a company that legitimate investing firms and the media lack.
Stick With Reliable Investing Tools
The market efficiency hypothesis states that you cannot “beat the market” due to the extremely high volume of professionals constantly analyzing stocks and corporations. Therefore, instead of trying to pick “hot stocks,” you should seek to create a diversified portfolio of investments by investing in well-established corporations – across several industries – with proven track records. By investing in ETFs or mutual funds, you will automatically diversify your investments, and your nest egg will grow with the stock market. Since you can’t beat ‘em, join ‘em!