What is a Micro Cap Stock?

A micro cap stock is a traded stock of a company with less than $10 million U.S. Dollars (USD) in net tangible assets. Unlike traditional stocks, found on an exchange, micro cap stocks trade in an over-the-counter (OTC) fashion, with quotes posted on electronic OTC systems, such as the Pink Sheets or Over the Counter Bulletin Board (OTCBB). In most instances, the trading volume of a micro cap stock is low, and the stock prices are reasonable. The greatest distinction between other stocks and a micro cap stock is that the company behind the micro cap stock may not file financial reports with the Securities and Exchange Commission (SEC). Investors often find it difficult to obtain reliable information about the company's products, services, administration, and finances.

Companies with stocks on the principal exchange markets must adhere to minimum standards to be listed on those exchanges. For example, they must maintain a certain number of investors or hold a minimum value in assets. A micro cap stock may have no operations or assets at all, and just a few investors may hold the majority of the stock. It may be a new company with products in the development or testing phase. With its low volume of trades, a micro cap stock tends to be highly volatile in price, because a trade of any size can profoundly influence the price.

Although investing in a micro cap stock allows an investor to invest in a new technology or innovative product at a reasonable price, the lack of reporting to the SEC also increases the potential for fraud. Widespread dissemination of false and misleading information is a key ingredient of micro cap fraud schemes. Investors should be wary of micro cap stock recommendations through chat rooms and blogs, spam email, cold calling, and unsolicited junk mail and faxes. A commonly used method is a phony, "incorrectly dialed" call with a stranger leaving a hot tip for someone else on the intended victim's voicemail. The goal in this scheme is to inflate the stock price by creating a buying frenzy, with the promoters dumping their shares just before they stop hyping the micro cap.

Red flags indicating micro cap companies with the potential for fraud include SEC trading suspensions, large stock holdings by a few insiders, and non certified financial statements. Guaranteed returns, promises of incredible profits, and coercive sales tactics are other hallmarks of fraud. Failures to provide written information or financial statements with unusual footnotes are other suspicious indicators of risky stock. Some micro cap companies sell cheap, unregistered Regulation S stock that can only be sold outside the United States to scam artists posing as foreign investors, who then sell the stock to United States investors at pretentious prices, splitting the profits with the micro cap company.