Market Overview

Wash Trading, Bear Raiding, Cornering: The Many Forms Of Market Manipulation

Wash Trading, Bear Raiding, Cornering: The Many Forms Of Market Manipulation

Volatility, an inherent feature of the financial markets, is not entirely undesirable on its face. It's volatility that creates opportunities to make profits. The concept of volatility is the very foundation on which day traders devise their strategies.

But wild swings expose traders to the risk of their investment dollars being wiped out. Apart from fundamental, macroeconomic and geopolitical factors, stocks can take a wild ride for no apparent reason, giving rise to fears that the market might be manipulated.

What Is Market Manipulation?

Market manipulation is the act of illegally and artificially inflating or deflating the price of a stock or influencing the market to move in a particular direction, according to Investopedia.

Manipulation can take many forms, including:

  • Spreading false or misleading information about a company.
  • Improperly limiting the number of publicly available shares.
  • Rigging quotes, prices or trades to create a false or deceptive picture of the demand for a security.

A Market Manipulation Glossary

  • Churning is the practice of placing buy and sell orders for the same security through different brokers, mostly in large quantities, to create a sense of huge interest in the stock and in turn demand. This has the effect of pushing up prices.
  • Wash trading is a variant of churning, in the sense that a trader sells and repurchases the same security to increase the volume of trading. With volume looked upon as a signal for buying and selling decisions, this strategy can artificially inflate asset prices.
  • Stock bashers usually post false or misleading information about a company on multiple public forums to drive down its stock price.
  • A pump and dump is similar to stock bashing, although it typically takes the form of bogus e-mails to millions of retail investors in order to drive stock price and volume higher. Once this is accomplished, the promoters dump their shares, which automatically deflates the stock price.
  • Painting the tape is a method of manipulation in which traders spread rumors to drive up the price of a security.
  • Bear raiding involves pushing down asset prices with heavy selling or short-selling.
  • Cornering is when a manipulator purchases enough of a particular asset to be able control the supply of the asset and in turn its price.

Lightly traded stocks are more susceptible to manipulation, as a significant purchase or sale has the potential to drive the stock sharply higher or lower. Conversely, a highly liquid asset class facilitates easy entry and exit, reducing the chances of wild swings.

See also: Being Penny-wise: All You Need to Know About Penny Stocks

High-Frequency Trading And Manipulation

High-frequency or algorithmic trading is the practice of using algorithms or a set of instructions for placing an order to generate profits at a speed and frequency that is beyond the realm of human trading. This technology-aided trading technique has also abetted manipulation, with layering being one of the strategies used to accomplish this.

Layering allows placement of multiple orders in multiple venues to suggest a high level of interest in a stock. Subsequently, the trader executes a trade on the opposite side of the market and cancels the initial limit order. 

The Motive Behind Manipulation

When a manipulator engages in the act of deflating the price of a stock, it is primarily done with the objective of buying it in a large quantity at a lower price. The manipulator engages in the act of selling to create the appearance of negativity, prompting the herd to follow suit. When the stock price is sufficiently depressed, the manipulator can quietly buy the stock without driving the price higher.  

Avoid Becoming A Victim 

A sharp movement in a stock price in either direction without an apparent cause and on anemic volume is always a warning sign for potential manipulation. without any rhyme or reason, on anemic volume flashes a red signal concerning potential manipulation.

Here are a few methods for avoiding losing money on market manipulation schemes: 

  • Don't follow the herd: It is in the best interest of an investor not to follow others blindly.
  • Do your own homework before making investment decisions.
  • Don't give in to greed. If your holding has made a decent profit, one route is to take a profit on at least part of the stock holding — leaving a smaller loss in the eventuality of a reversal.
  • To steer clear of manipulations, focus on stock that are highly liquid.

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