Red flags in promoted stocks

The most common answer to "why would anyone pay to promote this?" is that someone needs buyers. A company raising money by selling new shares does better with a higher price and more volume, and a campaign can supply both. Every new share issued also dilutes existing holders: the company is split into more pieces.

What to look for in the company's filings:

• A shelf registration (often a Form S-3), which lets a company sell registered shares later, in pieces, without a new registration each time.
• An at-the-market (ATM) program, which lets the company sell new shares straight into the market at whatever the price is. The more volume there is, the more it can sell without crushing the price.
• Prospectus supplements (filed as 424B forms) announcing an offering, a registered direct deal, or an update to an ATM.
• Warrants and convertible notes from earlier financings. Check the exercise or conversion price. Convertibles that convert at a discount to the market price get more shares the lower the price goes.
• A rising share count on the cover of each quarterly report. Comparing it quarter to quarter is the simplest dilution check there is.

All of these are public on the SEC's EDGAR search. The flag isn't any one filing; it's an offering, a shelf or a pile of in-the-money warrants sitting next to a campaign that brings in buyers.

The float is the number of shares actually available to trade, excluding those held by insiders and locked up. A low float means a small supply, so modest buying can move the price a long way, and modest selling can move it back just as fast.

That's exactly what makes a low-float stock attractive to promote, and exactly why it's risky to chase. Two checks: compare the float to the volume a campaign is producing (a stock trading several times its whole float in a day is being passed around very quickly), and compare the float to the authorized share count, which tells you how much room the company has to issue more.

A reverse split combines shares: in a 1-for-10, every ten shares become one, and the price per share rises tenfold while the company's value doesn't change. Listed companies often do it to get back above an exchange's minimum price. Nasdaq, for example, requires a $1.00 minimum bid for continued listing.

One reverse split can be housekeeping. Repeated ones are a pattern worth noticing. Nasdaq's own rules now deny the usual compliance period to a company that falls below $1.00 after reverse splits with a cumulative ratio of 250 to 1 or more over two years, and in asking the SEC to approve that rule it explained that such companies frequently need to raise capital and often do so through highly dilutive transactions (SEC approval order). A fresh reverse split leaves a smaller float and a higher price per share, which can make the stock easier to move again.

Our ticker pages mark splits on the price chart, so you can see whether a promotion landed shortly after one. Start from the promoted tickers index.

Stocks listed on an exchange such as Nasdaq or NYSE American have to meet listing standards and file reports with the SEC. Many promoted stocks instead trade over the counter (OTC), quoted on systems such as OTC Link, where standards vary a lot by tier and some companies don't file with the SEC at all.

That doesn't make an OTC stock bad. It does mean less information and usually less liquidity. The SEC tightened the rules here when it amended Rule 15c2-11, which now generally requires current, publicly available information about a company before broker-dealers can quote its stock. If a company's information goes stale, its quotes can disappear, and selling becomes much harder.

Check where the stock trades, whether the company files with the SEC, and when it last did.

The SEC can suspend trading in a stock for up to ten business days when it has concerns about the accuracy of public information or possible manipulation. Its list of suspensions is public, and the SEC's investor alerts treat a suspension of the stock, or of other stocks promoted by the same promoter, as a warning sign.

For an OTC stock, a suspension can be worse than ten days: quoting doesn't automatically resume when the suspension ends, because a broker-dealer first has to satisfy Rule 15c2-11 and file with FINRA (SEC investor bulletin on trading suspensions). Holders can be stuck with no market at all.

The SEC's microcap fraud guidance lists several that show up around promoted stocks:

• frequent changes of name or line of business;
• large share issuance without a matching increase in assets;
• little or no real business: few assets, minimal revenue;
• press releases about deals or contracts that never materialize;
• more promotion of the stock than of the company's products or services;
• a pitch tied to whatever sector is in the news this month.

The campaign is evidence too. Things worth checking:

• Repeat promotions. Has this ticker been promoted before, and what happened then? Each ticker's page in our index lists every disclosed campaign we've recorded for it.
• Who's paying. The operator's other campaigns are public history on the operators index.
• A vague funder. "On behalf of a third party" tells you there's someone behind the money you can't see.
• "May sell shares at any time." The paying party may be selling into the campaign. See how to read a disclaimer.