Unscrupulous brokers often hype and promote penny stocks

By. R M B Senanayake
Many years ago my driver used to buy shares which were low priced thinking that they were cheap. Once he had bought Vanik shares and when he asked me if it was a good buy, I told him that the company was bankrupt. He was upset but I reassured him that the share is still moving and as he had bought at Rs 1 he could sell it at about Rs 1.50.

It is now common practice for companies to carry out splits in the number of shares in issue by, say issuing two shares for each share in issue presently. The share price in the market should then come down by half. But in the market it may come down but still remain at more than half its previous price. These so-called penny stocks shares are all in respect of small companies with small issued capital. Their market capitalization is low below Rs 1 billion and many are a few hundred millions. Their share price is below Rs 10.

One of the most interesting — and alarming — aspects of penny stock dealing is that brokers are not always acting as a third party but instead could set prices and act as the principals in the transaction. Penny stocks most often do not have a single market equilibrium price but a number of different prices at which they can be purchased or sold depending on what is in the mind of the brokers. The market Price does not reflect its fundamental value in terms of its earnings growth or net asset value. So the guys in the broker offices get on the phone and tell everybody in other broker offices and they in turn tell their clients that the price of such penny stock will go from say its current price of Rs 3.50 to Rs 10. The broker who made the decision in the first instance, then pushes up the price to say Rs 4 in just a few minutes and this leads the other investors to start buying, making their announced price target to become a self-fulfilling prophecy. The price may go up to Rs 10 but then everybody starts to sell and the price falls steeply. The big buyers who earlier quoted for buying large quantities have disappeared. Note that bids and offers on the trading board can be amended at any time by the broker or his customer. When the price falls many who expected the price to go up to Rs 10 find that they cannot sell even at the price they bought and run up losses.

Unscrupulous brokers often hype and promote penny stocks that have minimal assets. With these “pump and dump” schemes, hard-selling wheeler-dealers hype the stocks, making outrageous claims about changes in the company that are wholly unsubstantiated by the facts. They drive up the share price so that they can cash in on artificial price inflation for a company that is worth nearly nothing! Today the government funds operating in the market seem to be buying such penny stocks at artificial prices. When they are in the market for them the whole market seems to know about it. They seem to be lending themselves to the market manipulations of wheeler dealers. So beware when buying penny stocks.
The writer is an economist and is the General Manager of a Colombo based stock brokering firm. You can reach him via raja.senanayake712@gmail.com
Source:http://www.news360.lk/in-depth/unscrupulous-brokers-often-hype-and-promote-penny-stocks

Well said, but my understanding is that no body would heed wise words until the dooms day. CSE most investors will learn only by experience, but by then many would have already fully burnt.

However we will see in the near future how some people drawn money out of government corpses through CSE to their pockets.