- Mohammad Kaif
Pump and Dump: How Social Media Enables Manipulation of India's Stock Market
[Mohammad is a student at Campus Law Centre, Faculty of Law, University of Delhi.]
The lure of quick profits has always been a powerful force in the stock market, but some unscrupulous individuals take this to an extreme with pump and dump schemes. While Securities and Exchange Board of India (SEBI), as the market regulator has implemented regulations such as the SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Market) Regulations 2003 (PFUTP Regulations) and the SEBI (Listing Obligations and Disclosure Requirements) Regulations 2015 (LODR Regulations) to curb such practices and enhance disclosure, these manipulative practices have become a persistent problem that threatens the integrity of the stock market leaving unsuspecting investors with empty pockets. This article delves into the mechanisms of pump and dump schemes using social media platforms such as YouTube, Telegram, and WhatsApp, against the backdrop of the recent interim orders passed by SEBI in the case of Sharpline Broadcast Limited and Sadhna Broadcast Limited.
Pump and Dump Schemes
At the outset, let us understand the concept of pump and dump schemes. Pump and dump schemes are a type of illegal market manipulation that involves investors spreading false information to inflate the price of particular stocks. These schemes typically target small-cap and mid-cap stocks that are more susceptible to such tactics because of their lower trading volumes, lack of liquidity, limited analyst coverage, lower regulatory scrutiny, and higher volatility. The mechanics of the scheme involve purchasing a large number of shares at a discounted price, and then spreading rumors or misleading information to create excitement and optimism among the public, leading to an increase in demand resulting in a rise in the stock's price. Once the price reaches a high level, the perpetrators sell their shares, causing the price to plummet and leaving unsuspecting investors with huge financial losses.
Data from SEBI shows that the number of cases related to fraudulent and manipulative activities has increased in recent years. As per SEBI’s annual report of 2021-22, SEBI has taken up 38 new cases and completed 82 cases related to PFUTP Regulations violations in 2021-22. Moreover, adjudication proceedings were completed in 546 cases involving 2,369 entities during the year 2021-22, out of which nearly half were penalized for violation of PFUTP regulations.
PC Jeweller and Parsvnath Developers were accused of engaging in pump and dump schemes in 2018. Both companies were accused of artificially inflating their stock prices by spreading false information and positive rumors. Investors who bought the stocks at inflated prices suffered significant financial losses. PC Jeweller's stock fell by 63%, wiping out INR 7,364.46 crore from its market valuation.
Use of Social Media in Facilitating Pump and Dump
It can be argued that the pump and dump schemes in the Indian stock market are rising largely due to the growing use of social media platforms like YouTube, Telegram, and WhatsApp. This provides a convenient way for perpetrators to spread false or misleading information about a particular stock to a broader audience, often consisting of retail investors who may lack the knowledge or resources to evaluate the accuracy of the information. This might cause significant losses for investors who rely on social media for investing advice but do not have access to trustworthy information sources. Additionally, the rapid dissemination of information on social media platforms can make it challenging for regulators like SEBI to detect and prevent such schemes. For example, YouTube channels with large followings frequently promote stocks by making exaggerated claims about the company's financials or prospects, often without disclosing their own interests. Similarly, Telegram and WhatsApp groups are used to share false information about a particular stock and create hype around it, leading to a surge in its price.
SEBI's recent interim orders have drawn attention to the growing problem in India's securities market regarding the manipulation of stock prices through social media, particularly through the execution of pump and dump schemes. The orders, passed on 2 March 2023, relate to two cases involving Sharpline Broadcast Limited and Sadhna Broadcast Limited. In both cases, false and misleading videos were created on YouTube channels with large numbers of subscribers and viewership, promoting the stocks to unsuspecting investors for extraordinary profits. These videos were aided by paid advertising campaigns. In both cases, the entities offloaded their holdings at inflated prices once the unsuspecting investors entered the stock, leading to an increase in the price and trading volume of the stock. The Noticees in both orders violated Section 12A of SEBI Act 1992 and the PFUTP Regulations. The SEBI order has resulted in the imposition of penalties on Sadhna Broadcast and Sharpline Broadcast. In the case of Sadhna Broadcast, noticees must disgorge illegal gains of INR 42 crores and noticees in Sharpline Broadcast case must disgorge illegal gains of INR 12 crores as the penalty amount. Additionally, all noticees are barred from accessing capital markets until further notice.
The SEBI order raises several issues related to the integrity of the securities market and its participants. Firstly, the misuse of social media platforms for spreading false or misleading information about listed companies to manipulate their stock prices is illegal and unethical. The SEBI Act 1992 and the PFUTP Regulations prohibit such practices. Secondly, the role of front entities and synchronized trading in creating artificial demand and supply for the shares is a common modus operandi used by manipulators to control the stock price and make unlawful gains. SEBI has identified and penalized several such entities in the Sadhna Broadcast case, but it is important to prevent such practices in the future by strengthening surveillance and enforcement mechanisms. Lastly, the responsibility of promoters, shareholders, and KMPs in preventing such manipulative activities is crucial. SEBI has observed that some of the promoters and KMPs of both companies had sold their shares at inflated prices during the manipulative phase, indicating their complicity in the wrongdoing. It is important to hold such insiders accountable and impose strict penalties to deter others from engaging in similar activities. Overall, SEBI's actions serve as a warning to all market participants that any attempt to manipulate stock prices will result in severe consequences.
Why and How More Action Can be Taken by SEBI?
SEBI's regulations have been successful in reducing the prevalence of pump and dump schemes in the Indian stock market. Yet, there is still opportunity to prevent such schemes in the future, the following suggestions can be considered:
Stricter regulations on social media platforms
Social media platforms should have protocols in place to detect and eliminate false or misleading information that can potentially manipulate the prices of securities. These platforms should be held accountable for allowing the circulation of such content.
The stock exchanges should strengthen their market surveillance system to identify and track any unusual price movements and trading patterns. Regulators should also increase their cooperation with other regulatory bodies and law enforcement agencies to detect and deter such schemes.
Stringent enforcement of regulations
The regulators should take strict action against those who violate the rules and regulations related to the securities market. This includes imposing heavy penalties, prosecuting the offenders, and freezing their assets to prevent them from enjoying the illegal gains.
Retail investors should be educated on the dangers of pump and dump schemes and how to identify such practices. This can include workshops, seminars, and online resources provided by regulators and other market participants.
Increase the penalties for non-compliance with disclosure requirements
Currently, fines for non-compliance with disclosure requirements as per the LODR Regulations, may not be a significant deterrent for companies engaging in fraudulent activities. Strengthening penalties could serve as a more effective deterrent to fraudulent practices.
SEBI and market participants can work to build a more open and equitable securities market that benefits investors, issuers, and intermediaries by putting these recommendations into practice.
In conclusion, pump and dump schemes are a significant threat to the Indian stock market, particularly for retail investors who lack knowledge and experience. SEBI has taken measures to curb such practices, including the implementation of strict disclosure requirements for listed companies and the prohibition of fraudulent and unfair trade practices. However, social media platforms have made it challenging to detect and prevent these schemes, and perpetrators are increasingly using them to manipulate the market. To safeguard their investments, investors should exercise caution when investing in unfamiliar companies or those with sudden price fluctuations and be wary of unsolicited investment advice or tips from unknown sources. To strengthen its control over manipulative trade activities, SEBI should focus on increasing investor awareness and education and using more advanced technological tools to detect and prevent market manipulations. By being vigilant and informed, investors can minimize their exposure to pump and dump schemes and protect their investments.