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Pump & Dump

May 28, 2013
Courtesy: Investor and Securities Investment Corporation

Courtesy: Securities Investor Protection Corporation

Drama. Pump & Dump is an illegal activity that is usually partied in the backrooms of small brokerage firms that start selling a small capitalization stock to each other, bumping up the volume and price as much as they can with each trade, hoping to eventually attract some new money into buying the stock from them. It’s a “securities fraud” that is broadly estimated to net $10 billion to $40 billion per year.

File:Bubble.folly.jpg

“Bubble Folly” The Night Singer: Wikipedia
The “night singer of shares” sold stock on the streets during the South Sea Bubble. Amsterdam, 1720.

But it’s not limited to “micro-caps” anymore and some very big names in both corporations and mutual funds have been named in the last ten years, and we’ll not name them again but invite you to do some of your own research, in camera, to understand the enormous scope and danger of this activity.

We’re not into retribution, but we are into prophylactics, and what catches our fancy today is the simple fact that huge trading volumes are initiated by dumb technologies and that “Dumb & Dumber” is not a crime but just a fact of how the markets work.

When we buy a stock, what is it that we’re buying? We can’t eat it, drink it, wear it, frame it, drive it, or do any of the other things that we might do with any other consumer product that we might buy.

And it comes without any warranty or guarantee or promise of suitability for the customer, and it has no value unless someone is willing to buy it from us at some price that we’d like to be more than what we paid for it – and, of course, if it’s worth more now than when we bought it, why are we selling it? Is it not becoming a collectible?

What we have bought, and all that we have bought,  is “risk” and all the anxiety that is usually associated with danger, darkness, and death. And the “risk” is that we might not be able to get our money back and a hopeful, but not necessarily guaranteed, return above the rate of inflation. The risk is not, however, that the “beta” might be out of whack, or that it’s presciently urgent that we “flee” to the safety of “bonds”, now, today (please see our Post, Proactive Risk Management For Everybody & The One Rule, May 2013).

Case in point: the company that we just talked about yesterday, (B)(N) HTZ Hertz Global Holdings Incorporated, is up +4% in pre-market trading this morning on a volume of nearly 6 million shares ($150 million) that changed hands before the coffee-break (Morningstar, Market Chatter: Hertz Gaining 4% in Pre-Market – Barron’s Highlights Company as Dominant Player, Set for Growth).

Moreover, 750 million shares have changed hands so far this year, including some large blocks on the order of 50 million shares or more, earlier this month (PRNewswire, May 6, 2013, Hertz Announces Sale Of 49,800,405 Shares Of Common Stock By Selling Stockholders) and 1,400 million shares changed hands in all of last year, at much lower prices, for a turnover of more than 3× on the 400 million shares outstanding if we think of the stock as a kind of “lettuce” or shelf-product that we might buy in the grocery store. And the difference in volume is similar to the difference in turnover between a shelf-product that is not perishable and has a turnover of three times in a year, and a “fruit” like a kumquat that needs to turnover nearly twice in six months, else it might rot on the shelf.

Apart from the merits of the Thrifty deal, which could be substantial and were obtained at a bargain price (please see our Post), the only other evidence of “perishability” is that the company’s earnings might rise to $3.10 to $3.30 per share, in contrast to the demonstrated earnings of $0.71 per share and a P/E multiple of 30× that would be reduced to merely 13× under the new scenario (ibid, Barron’s) and, for some reason, not just 6× that the known math might indicate.

But we know that earnings don’t mean anything (please see our Post, Earnings Don’t Matter, April 2013) and so we’ve updated our stop/loss of minus (-$4) per share from $20, which is the price of risk, to an aggressive $24 today, and provided our own refrigeration, so to speak, and if it drops to only $20, we might have to buy it back at lower prices closer to the best before date.

The Price of Risk

The calculated Risk Price (SF) is a provably effective estimate of the “price of risk” which is “the least stock price at which the company is likeable” (Goetze 2009) and “likeability” is determined by the demonstrated factors of “risk aversion” – we want to keep our money and obtain a hopeful return above the rate of inflation – and the properties of portfolios of such stocks.

Stock prices that are less than the price of risk can be said to be “bargain prices” but with the risk attached that the company might never get a higher price other than that due to ambient volatility or “surprise”; on the other hand, investors who are willing to pay the “full price” above the price of risk, and buy and hold the stock at those prices, must also be confident, and have reason to believe, that the company will produce those values, absent new information.

Please see our Posts, The Price of Risk, August 2012 and The Nash Equilibrium & Its Stock Price, October 2012, for more information on the theory.

To see what else “risk averse” investing can do for us, please see our recent Posts, The Wall Street Put, April 2013, and earlier Posts such as The Dow Transports, March 2013, or The Risk Adjusted Dow, March 2013, or The Canada Pension Bond, February 2013, and for a more colorful description of investment risk and the application of the “price of risk” to mergers & acquisitions, please see our Post, Bystanders & Collateral Damage, April 2013.

Postscript

We are The RiskWerk Company and care not a jot for mutual funds, hedge funds, “alternative investments”, the “risk/reward equation” and every other unprovable artifact of investment lore. We have just one product

The Perpetual Bond
“Alpha-smart with 100% Capital Safety and 100% Liquidity”
Guaranteed
With No Fees and No Loads on Capital

For more information on RiskWerk, please follow the Tags or Categories attached to this Letter or simply enter Search for additional references to any term that we have used. Related data may be obtained from us for free in a machine readable format by request to RiskWerk@gmail.com.

Disclaimer

Investing in the bond and stock markets has become a highly regulated and litigious industry but despite that, there remains only one effective rule and that is caveat emptor or “buyer beware”. Nothing that we say should be construed by any person as advice or a recommendation to buy, sell, hold or avoid the common stock or bonds of any public company at any time for any purpose. That is the law and we fully support and respect that law and regulation in every jurisdiction without exception and without qualification to the best of our knowledge and ability. We can only tell you what we do and why we do it or have done it and we know nothing at all about the future or the future of stock prices of any company nor why they are what they are, now. The author retains all copyrights to his works in this blog and on this website. The Perpetual Bond®™ is a registered trademark and patented technology of The RiskWerk Company and RiskWerk Limited (“Company”) . The Canada Pension Bond®™ and The Medina Bond®™ are registered trademarks or trademarks of the Company as are the words and phrases “Alpha-smart”, “100% Capital Safety”, “100% Liquidity”, ”price of risk”, “risk price”, and the symbols “(B)”, “(N)” and N*.

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