Editor Ian Lyall is the author of the Street-Smart Trader, a behind the scenes peek at how the City really operates. Here, for Proactive Investors readers Ian reveals some of the scams that have cost rookie investors tens of thousands of pounds.
This article does not refer to the legitimate work of the City. The characters are more akin to muggers, although they may dressed in Paul Smith suits.
They create an air of legitimacy with fancy letter-heads and phony addresses. Usually this is a front - nothing more than a postal box in the capital.
The dirty work might be carried out in some backstreet offices in Leeds, or more often these days a sweat-shop in Barcelona or Frankfurt, where regulation is far slacker than here in the UK.
And as we?ll see the worldwide web has really given these crooks and villains a leg.
Pump and dump
Take an unpromising penny stock and an email spam campaign and what do you have?
A pump-and-dump scam that can potentially net millions for the perpetrators. If you haven?t heard of pump and dump where have you been for the last 15 years?
It even featured in an episode of The Sopranos!
Essentially, the advent of the internet, and in particular online bulletin boards/forums, has made it easy for the unscrupulous share trader to pseudonymously pump out breathlessly positive, semi-analytical information on the latest go-go company before dumping the shares on unsuspecting buyers.
The reality check, for buyers at least, comes with the belated discovery that the stock in question is nothing more than a limping, rarely traded micro-cap from AIM, Ofex, or America?s over-the-counter market.
Junk emails are a popular method used to pump and dump. It is estimated that 15-20pc of all spam email is related to such scams.
The classic is the stock tip inadvertently sent to your inbox. Purporting to pass on inside information, the missive waxes lyrical about a particular quoted firm and its growth potential.
Traders who buy the shares will soon find out what they?ve really let themselves in for.
They may have ended up with something that they will never be able to get rid of because the shares trade about twice a year.
And what about that 100pc rise in the share price just before the unsuspecting victim of the scam bought into the company?
Well, that was the pump and dumpers squeezing the price higher having bought them for next to nothing.
If you receive any unsolicited emails about small cap shares, you should ignore the tip altogether.
If you receive a more personal hot tip, beware that the person tipping you might themselves have been duped.
Boiler room scams
Like the pump and dump merchants, the exponents of the boiler room scam will buy millions of penny shares from the lightly regulated stock markets of the world and then sell them on to other traders.
Prices will be ramped up and unsuspecting clients will be charged twice or three times what the stock is actually worth.
Boiler room operations are usually hidden away in the apartment blocks of Frankfurt, or the back streets of Barcelona.
You?ll need the finely honed skills of a crack detective, but if you look carefully enough you will uncover these outfits that were forced to move offshore because of British regulation.
Usually when the bases for these scams are discovered, they contain nothing more than a series of empty, tightly packed desks with their occupants long gone. In full flow there would have been 20-30 ambitious young men there, working banks of phones, cold-calling clients.
These salesman are the heart and soul of a boiler room scam.
The boiler room team will have a client list of potential victims, costing anything up to £10,000 and bought from a company that collates, trades and recycles names, phone numbers and email address. It is then up to the sales team to hit the phones and sell the stock.
Tactics are high pressure ? and the buyers are often the elderly and vulnerable. People have been known to pledge their life savings of £50,000 or more to a worthless, illiquid penny stock just on the say so of a hectoring telephone conversation.
As with any suspicious share tips you receive by email, treat any phone call in which you are offered a seemingly good deal on some shares with immense suspicion.
Bucket shops
The bucket shop is the slang name for the City stockbrokers that operate on the very fringes of the financial community. The term is often used to refer to FSA-regulated outfits that have a dubious track record for mis-selling.
However the worst offenders function very much like the pump and dumpers and boiler rooms.
In fact one chap who was privy to the finances of one particular bucket shop told me that a substantial FSA fine is priced into the company?s business model as a recurring overhead rather than as a severe punishment to be avoided at all costs.
This may be apocryphal, but there is scant regard paid to the regulator by these companies.
In conclusion
If an investment looks too good to be true it is invariably just that ? too good to be true. Share tips sent via the internet, should immediately be marked as spam. If you receive an unsolicited call offering investment advice, put the receiver down immediately. Always do your own research and use a reputable stockbroker to buy and sell shares. Save the Financial Services Authority website as a favourite on your browser. It has an exhaustive list of cons in a section entitled ?scams and swindles?. More to the point there is a search facility which will show whether firm you are dealing with is registered with the FSA. There?s even a blacklist of unauthorised companies targeting investors.
