Who Falls Prey to the Wolf of Wall Street? Investor Participation in Market Manipulation

Who Falls Prey to the Wolf of Wall Street? Investor Participation in Market Manipulation

Andreas Hackethal, Christian Leuz, Steffen Meyer, Maximilian Muhn, Eugene Soltes

May 21 2019

Perceptions that those who are duped into buying into fraudulent schemes are the elderly and most vulnerable have long been touted in the news, movies like the Wolf of Wall Street, and even regulators. Yet, do we actually know who invests in pump-and-dump schemes? It is a critical question since designing effective investor protections to limit the harm from such deceptive enterprises requires understanding who invests and why.

In our paper, we seek to illuminate actual participation in pump-and-dump schemes by combining a large set of frauds provided to us by the German supervisory authority, BaFin, along with trading records for over one hundred thousand individual investors from a major German bank. The confidential trading records not only allow us to assess the returns or losses of individual investors that participate in pump-and-dump schemes, but also allow us to learn about the characteristics of participating investors, their trading behavior and their portfolios. Using this data, we can examine some of the common perceptions— or as we find, misperceptions— on who invests in pump-and-dump schemes.

We find that participation in pump-and-dump schemes is more common than might be expected. Nearly 6% of the investors in our sample invest in at least one pump-and-dump scheme during our fourteen year sample period. As would be expected, tout investments on average produce considerable losses with the average return to a pump-and-dump scheme being -28%.

Aggregating losses across investors in our sample, we estimate that the average tout generates losses for German investors of at least €1.2 million. By comparison, the median fraud that is criminally prosecuted in the United States generates much smaller damages (roughly $70,000) and the average loss generated by a single tout in our sample is comparable to the 90th percentile of all frauds prosecuted in the United States ($1.75 million) This comparison illustrates that pump-and-dump schemes are not small financial crimes.

Given the significant negative returns to tout investments, it is perhaps surprising that we find a considerable numbers of individuals investing in more than one tout. In fact, roughly 11% of tout investors place money in four or more touts during the sample period. These multi-tout investors perform less poorly in their initial tout investments, but they still lose on average 24% across all their touts.

The frequency with which some investors invest in touts as well as the composition of their portfolios suggests that not all tout investors are gullible or fall prey to pump-and-dump schemes. Instead, it appears that some investors seek out pump-and-dump schemes and view them as gambles or lotteries. This observation is supported by investors’ past trading behavior in non-tout stocks. Specifically, we find that more than 35% of all tout investors have been day-trading in penny stocks or are frequent traders with short investment horizons. These investors appear to be willing to take substantial risks and trade aggressively also in other stocks.

Overall, our analysis contributes to a more nuanced understanding of market manipulation and investor protection. Our findings highlight the significant heterogeneity among investors participating in deceptive market manipulation like pump-and-dump schemes. Importantly, we find that demographics provide only limited insights into who participates in pump-and-dump schemes. Instead, portfolio characteristics and past trading behavior play a much larger role. We also show that there is substantial heterogeneity in outcomes and that this heterogeneity is connected to trading motives and investor types.

Ultimately, we show that the “Wolf of Wall Street” does cause considerable damage to investor portfolios, but our investigation also indicates that the common perceptions of who, on average, is most adversely affected may need to be reconsidered.


Real name:
Andreas Hackethal
Fellow, Research Member
The University of Chicago - Booth School of Business
Real name:
Steffen Meyer
Real name:
Maximilian Muhn
Real name:
Eugene Soltes