Boiler room operations are one huge reason penny stocks live in infamy.
It’s been a while since boiler rooms had their heyday, but the legacy, however shady it may be, lives on. And these operations inspire some of the stock pumps we still see today.
That definitely makes it worth knowing what a boiler room operation is. This is must-know market history. Especially if you trade lower-priced stocks. Plus, it’s a pretty juicy topic…
Hollywood’s even made movies about these kinds of businesses — like “Boiler Room” and “The Wolf of Wall Street.” It’s a peek into the seedy world of sketchy dealings, glamorous shenanigans, and beyond.
So let’s dig into the dubious world of boiler room operations and what you should know as a trader.
Table of Contents
- 1 What Is a Boiler Room Operation?
- 2 Understanding a Boiler Room Operation: How Does It Work?
- 3 What Is a Boiler Room Fraud?
- 4 Who Are the Architects in a Boiler Room Fraud?
- 5 Boiler Room Operation Scheme Tactics
- 6 How to Avoid a Boiler Room Scheme
- 7 Conclusion
- 8 One Platform. One System. Every Tool
What Is a Boiler Room Operation?
First, let’s start with a basic definition of boiler room operations and how they work.
A boiler is a kind of heater used in homes or businesses. Boilers are usually found in basements or back rooms. What does that have to do with these sketchy stock pump operations?
People used to run stock schemes out of boiler rooms. That’s the myth anyway.
Others say it’s called a boiler room scheme because of the high-pressure tactics these salespeople use. And then there are those who claim it got its name from these operations cramming in as many phones and cold callers as possible into tiny offices.
Whatever the origin, the purpose of these schemes remains the same…
Insiders, boiler room operators, and other affiliates sell shares of a selected stock. It’s usually an OTC or pink sheet. The goal to inflate the price then dump their shares into the liquidity they’ve artificially created.
Hopefully, you’re getting a solid idea of why this is smart information to know…
Understanding a Boiler Room Operation: How Does It Work?
Boiler room operations all vary in appearance and practice, but they all work the same.
A promotion would start with ‘the smartest person in the room.’ This mysterious figure could hide behind a web of shell companies, brokerages, and associates. They’d have shares to sell — and got them cheap.
So this person would hire someone else, a ‘quarterback,’ to put together a team of promoters and pay them in cash or shares. Back in the day, they’d outfit a cheap office with dozens of phones.
Next, the operation would hire a handful of brokers theoretically registered with the SEC to sell shares. Under each broker, a handful of trainees would cold call people to lure in unaware buyers.
Not all trainees were bad people. Some were regular folks. During the training process, the trainers would trick them into thinking they’d get a fat salary. What they often weren’t told was that the company they were pitching was fundamentally worthless.
The trainees would then cold-call unsuspecting investors from a ‘sucker list’ and use hard-sell tactics.
That’s how they’d create false demand for a worthless stock. Once that stock price went up, those in the know would dump their shares into the demand.
We still see stock pumps today, although on a slightly different level. A lot of promoters have just found loopholes and workarounds. More on that in a bit.
Are Boiler Room Operations Dangerous?
The people most at risk from these operations are the victims. They’re the ones who get stuck holding the bag and losing money.
Buying stocks is risky enough when they represent healthy companies.
There’s one reason for promoting worthless, junk companies. Promoters and operators use high-pressure sales techniques to create buyers. Then they dump their shares into the buying as the stock price spikes.
There’s no reason for these kinds of stocks to make gains. No news, no catalyst, no big investor. That means the gains can’t hold. And once the insiders take gains, it triggers a sell-off. Unsuspecting investors are stuck with a crap stock that will never go anywhere.
And there’s another great risk of investing in a boiler room stock — sketchy brokers. You could invest in a company through one of these brokers…
Only to realize you’ve made a big mistake. But you can’t contact the broker that got you the shares.
They’re suddenly impossible to nail down. If you do get a hold of them, you may not be able to get your money back or unload your shares.
Always do your research and always use a reputable broker.
The promoters and architects of these schemes go into hiding to avoid consequences.
The guys at the bottom are at the most risk for legal trouble, but it’s difficult to prove intent to defraud.
Like I said, most of the operators don’t know that they’re selling crap. They’re trying to earn a buck like anyone else.
Are Boiler Room Operations Illegal?
There’s not a simple answer to this…
They’re definitely sketchy. If they were honest, there wouldn’t be any need for underhanded activity. They wouldn’t have to hide behind a network of shell companies.
Mailer promotions are required to tell you if they’ve been paid to promote a stock. That includes email promotions.
A firm that promotes a stock isn’t supposed to be invested in the stock. If they are, they’re legally obligated to disclose their position.
The North American Securities Administration Association (NASAA) has guidelines for fair practices … But it’s in a boiler room operator’s job description to only discuss the positive aspects of a stock. They have to discourage further research.
That’s a clear violation of the NASAA’s fair practices guidelines.
Recently, the SEC started shutting down listings on some stocks. If a company’s behind on its financial reports, it can be delisted. It’s a way to push back against fraud.
These days most boiler room operations are outside of the U.S. That’s one way they try to avoid interference from the SEC and NASAA.
Bottom line: boiler rooms exist on the shadier side of the legal spectrum. The people responsible for them go out of their way to avoid contact with the law. All that tells me that they’re probably up to no good.
How Does a Boiler Room Operator Sell?
In a classic boiler room scenario, you’ve got the folks at the bottom cold-calling people or sending out mass mailers.
That’s to get you on the hook. Once they’ve got your attention and interest, they pass you on to a broker who sells you the shares.
The sales tactics and techniques are all hype. They use phrases like “once in a lifetime opportunity” and “guaranteed success.” They want you to think that it’s a no-risk scenario that you only have one chance to get in on.
And like I mentioned before, these days, promoters pump stocks on Twitter and social media.
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What Is a Boiler Room Fraud?
In a boiler room scheme, the company they push is worthless. If you look at the company’s fundamentals, it’s worse than a bad company.
Most don’t have any products, services, or revenue. They’re usually delinquent on reporting.
Promoters’ promises are often fraudulent and flat-out lies.
Learn More With the Movies “Boiler Room” and “The Wolf of Wallstreet”
If you haven’t seen “Boiler Room” or “The Wolf of Wall Street,” I think you should check them out.
Both movies are based on real events. I always say history doesn’t repeat, but it often rhymes.
These movies are historical fiction. They’re dramatized depictions of how boiler rooms and stock promotions work. They show the hype, the mania, the debauchery.
But they also show the very sad and real consequences of fraud on both sides of the deal.
Who Are the Architects in a Boiler Room Fraud?
The people behind these schemes vary. They could be insiders or friends of insiders. Or it could be someone who’s amassed a lot of shares over a long period of time at low prices.
Sometimes investors have shares that are about to become unrestricted. So they might instigate a promotion to unload those shares at inflated prices. It’s one way they can make a nice payday for themselves at the expense of investors.
Other boiler room architects could include someone who has collected warrants or convertible notes.
Whoever it is, they have a lot of shares at low prices they unload so they can make some cash.
Boiler Room Operation Scheme Tactics
Times have changed since the days of cold-calling, mailers, and even stock promoter websites.
For the longest time, the classic pump was dead. Promoters just weren’t moving stocks like they once did.
With social media and this new wave of volatility, promoters are finding new ways to hype stocks.
The days of cramming hoards of sweaty, underpaid sellers into an office packed with phones may be over, but scams will always be around.
It used to be a boiler room operator’s job to call people, usually from a list of people who had bought other schemes.
They’d make outlandish claims about a stock’s potential value. Boiler room operators would use high-pressure sales tactics, preying on emotions and pain points.
You’d hear things like “this is your mortgage” or “this is your kid’s college tuition.”
It’s their job to make you feel like it’s your last chance to get in and that it might be the last stock to ever run this big. Now on social media, new traders can still fall prey. This is why you always must do your research.
Never take someone’s word when it comes to buying stocks.
How to Avoid a Boiler Room Scheme
It’s easy to spot a scam if you know what to look for. These promoters prey on emotions. They make you think you only have a moment to take advantage of the “opportunity.” If you stop to think about it, you might realize just how dangerous the proposition is.
First, if someone contacts you out of the blue trying to get you to buy something, think long and hard before you jump in. It’s never the last chance.
I always say opportunity is like a bus. If you miss one, there’s one right around the corner.
Second, use a reputable broker that you consciously chose. No broker should ever force you to remain in a trade.
Third, recognize that a real company doesn’t have to contact people to get them to invest. No real company will pay for a promotion. They focus on their products and services — performance is what entices buyers.
Finally, if something sounds too good to be true, it probably is. Keep that in mind whenever someone offers you something you didn’t ask for.
Don’t get caught holding the bag. The most important factor in any trade is your trading plan. If the trade doesn’t work, you cut your losses and move on to the next.
Boiler room operations may be an outdated scheme, but the concept is still around. With the world as connected as it is through the internet and social media, anyone can run a scheme from anywhere.
These days cold-calling is out, but some people are always looking for ways to make a quick buck. Some will go to great lengths to pull one over on you.
Stay a step ahead by using the right tools for trading and investing. Don’t believe hype or mania. And again, always do your research. These operations were here before me and aren’t going away any time soon. They just find new ways to target victims.
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Have you ever fallen for a promotion? How did you learn from the experience? Share your story below — it just might prevent someone else from making the same mistake!