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The stock market is supposed to be a safe place to trade—to a point. Risk will always be a part of investing, but the idea that people want to see is the possibility that risk will be mitigated by statistics and data given to you by companies.
Of course, all the data that they offer won't mean anything if those statistics are lies.
Over the years, there have been many publicly traded companies that were shell companies bilking people out of money. Many others overvalued themselves at the dismay of investors.
Safeguards; such as professional risk analysts, financial advisors, and even the SEC; have all been created to reduce the risk of being fleeced into investing in a bad company. However, there's only so much that safeguards can do.
It's very possible that a stock isn't legit, but somehow managed to skate underneath the radar. Are you worried that the stock you want to invest in isn't what it appears to be? Look out for the most blatant potential warning signs.
It's being sold on the OTC Pink.
This isn't an immediate red flag, but it is definitely a "Proceed with Caution" sign.
Every stock is traded on a different marketplace, and each marketplace has a different standard set. Most mainstream marketplaces, such as the NYSE or the London Stock Exchange, have stringent requirements that involve a lot of third party involvement.
OTC stocks, on the other hand, aren't as regulated as mainstream stocks. There are three different levels of OTC stock trading, all of which tend to focus on different companies.
The OTC Pink is the most unregulated of all marketplaces, and has to be accessed via a financial advisor as a result of the risk involved. The less regulation a marketplace has, the higher the risk you're taking on. With less regulation, you run a much higher risk that a stock isn't legit.
That being said, being traded on the OTC Pink shouldn't be an immediate "no" if you're a well-versed trader. Many great companies that became huge later on started on the OTC Pink!
The company's size is unusually small, but the valuation is unusually large.
It's possible to have a functional publicly-traded company that has a small number of employees and manages to pull in a good amount of money. Most of the companies that fit this bill are fairly well known because of how unusual it is to see a company that has this trait.
A company's size versus its profits tells you a lot about its current standing. More specifically, if you notice that a company has a very high valuation (like $500 million or more) with a staff that consists of a handful of people, you should be worried about it being a shell company.
There's no building at the company's alleged address.
There's a damning warning sign for potential investors that can be difficult to find, but this remains worth seeking out whenever possible. Depending on the company, it can be very telling.
You need to have a working company in order to have stock worth trading. A stock probably isn't legit if the company it's for doesn't have an actual office or building where transactions take place. It's just that simple.
Any company that's actually doing work will have a legitimate building where people go to do work. If you can't find an address to the company's headquarters, then you really should be worried. Something is very, very wrong there!
The sheets don't show any revenues whatsoever.
The purpose of a company is to make money, period. If you are a publicly-traded company, it's very possible to be unable to turn a profit. If you don't have any revenues though, there's a reason to think a stock isn't legit.
Companies need some kind of revenue in order to continue existing. If it's not making any money, what's it doing to give back to investors?
There are no operations to speak of.
Let's say that a company doesn't have revenue, but does have a full staff who investors can actually see working to promote a product they're still developing. This is a possibility, albeit, one that is highly unlikely.
One thing you will never see is a company that has no operations. You need people to actually work in a company and make sure the company functions before it can do anything.
If a company has no operations group, it's not a legitimate company in the least bit. Therefore, it's not a stock to buy.
Very few shareholders and traders are actually involved in it.
You can tell a lot about a stock by the number of people involved in buying and selling it. A stock that has a very low number of investors may be a "pump and dump" stock.
A "pump and dump" stock is a specially made a publicly-traded stock that tries to fool a large group of people into buying shares in hopes of bloating the price, only to have a mass selloff once interest peaks. Those who are part of the select cabal profit from the mass selloff, leaving others high and dry.
The numbers don't make sense.
Once in a while, you'll see a stock that has all the regular checkboxes ticked off but still doesn't look right upon closer inspection. These are the most dangerous investments out there, simply because they fool so many investors.
One of the best ways to see if a stock isn't legit deals with standardized analyses. Back before Worldcom busted, the firm was in serious denial, and claimed to have record profits during a time when the telecom industry was in free fall.
A simple look at the common size analysis would have shown that Worldcom's operation costs were declining when the cost of equipment and people continued to rise. That should have triggered a raised eyebrow, but it didn't.
If the numbers that a company has doesn't make sense with current events, it's likely that a stock isn't telling the truth about something. Luckily, tips for picking stocks using fundamental and technical analysis will save your from this folly if you are serious about investing the right way.
Your financial advisor is really pushing this company, but you can't find much information online.
Though there are plenty of companies that are hidden gems, chances are that your financial advisor won't be pushing them very heavily unless they are the head of a fund themselves.
One thing most financial advisors won't tell you is that they will often be paid extra to push stocks that may not be the best choice for their clients. Greedy advisors will go so far as to emphasize these stocks while keeping better ones on the down-low.
For this reason, it's important to know what to look for in a financial advisor. If your advisor won't stop squawking about a stock or fund, do your research before you buy it. If you can't find enough information, you need to rethink who you've hired to handle your finances. They may just be in it for short term gain.
The stock is dirt cheap.
There's a reason why people say it's never a good idea to invest in penny stocks, you know. Along with being very volatile, penny stocks are the most likely candidates to be shell companies on the stock market.
That being said, being low cost doesn't necessarily mean that a stock isn't legit. Many world class stocks that are now blue chip started out as penny stocks. However, if you notice that a low price comes alongside another handful of red flags, you need to reassess what you're doing with your portfolio.
They refuse to report major statistics.
In the world of investments, very few things should strike suspicion as much as "black box" revenue explanations. When a company black boxes their revenues, this means they refuse to explain how they generate income on the basis that it could harm the company.
The truth is, no one should black box their revenues. If you notice this indicator, you're probably already aware it's a glaring sign that a stock isn't legit.