Pump and Dump Stocks: Is it a Good Strategy?

Last week, ASIC released an article warning people of the common tactics used to get individuals to invest in shares. The article titled “Don’t believe the hype” discusses three trading strategies that are used to take advantage of retail investors. I have voiced my concerns about these practices in the past, as they have little to do with clients profiting from good investment strategies and everything to do with the provider making money regardless of the outcome for the consumer.

Three trading strategies that will cost you dearly

If you want to build your wealth, then according to ASIC, you need to stay away from the following trading strategies. Pump and dump schemes, which occur on a daily basis in social media and online chat forums. This practice involves someone purchasing shares in a company at a low price and then telling everyone else to buy in order to create a snowball effect that causes the price to rise significantly. This is known as the one more fool theory, where a buyer hopes one more person will purchase at a higher price than them, so that they can sell and take their money.

Another strategy is the gamification of trading, which typically attracts younger investors who get caught out with applications on their devices that make buying and selling shares easy and fun. Essentially, it is intended to make investing more like a game than a well thought out investment strategy.

Copy trading is also another strategy that ASIC warns investors to be careful of, which involves copying the trades of someone else using an automated trading software platform. While this might seem attractive, I am sure most can see the concern with putting their future in the hands of a total stranger. Unfortunately, I have talked to many investors who have tried this and suffered severe losses or had their accounts wiped out.

According to ASIC, it’s important that you don’t fall prey to the promise of high returns when you are approached about these trading strategies and to understand what you are buying, so you recognise the risks. While I appreciate the desire to gain financially without a lot of knowledge or having to put in a lot of effort seems very attractive, it tends to create a false sense of reality to the point that many ignore the inherent risks.

What were the best and worst performing sectors last week?

The best performing sectors included Energy up 2.01 per cent followed by Communication Services up 1.29 per cent and Information Technology up 1.26 per cent. The worst performing sectors included Utilities down 1.90 per cent followed by Consumer Discretionary down 1.26 per cent and Consumer Staples down 0.86 per cent.

The best performers in the ASX/S&P top 100 stocks include Alumina up 19.10 per cent followed by S32 up 13.10 per cent and Lynas Rare Earths up 9.97 per cent. The worst performing stocks included Altium down 7.79 per cent followed by Wesfarmers down 7.11 per cent and AGL Energy down 5.87 per cent.

What's next for the Australian share market?

Last week the Australian stock market almost repeated the trend of the prior week given that it traded up early in the week before turning down, although it traded up on Friday to close just under 1 per cent higher for the week. This is a reminder that it’s important to wait for confirmation of direction before making a decision.

In my previous report, I indicated that while the market was technically bullish, it is searching for a two year high and if the All Ordinaries Index trades down, it may be starting its move down into the low that is expected in September or October.

Given that the market confirmed an up move this week, it may be a sign that the bulls have not yet finished with the current uptrend that started with the COVID low in March 2020. As I continue to say, we need confirmation that a move is unfolding before we react, as the market could just as easily start to rise or fall.

A break above the previous high would signal the continuation of an uptrend while a break below the low of 7,700 points would signal the start of a downtrend. My advice right now is to wait until we have confirmation of a move in either direction and to remember that now is not the time to speculate.

For now, good luck and good trading.

Dale Gillham is Chief Analyst at Wealth Within and international bestselling author of How to Beat the Managed Funds by 20%. He is also author of the award winning book Accelerate Your Wealth—It’s Your Money, Your Choice, which is available in all good book stores.