Pump and Dump On the Waterfront Alleged

NEW YORK ( TheStreet) -- Wall Street fraud, South American narcotics cartels, Silicon Valley-based online social networks, the poppy fields of war-torn Afghanistan -- the story behind a recent stock-fraud bust in New York involves just about every newsy flashpoint of the last decade.

Toss in a group of rough-and-tumble port workers, and it's as if life is imitating The Wire -- transplanted from Baltimore to the Port of New York and New Jersey. The only difference between the real and fictional characters is that the former are connected -- electronically.

>>Avoiding Social Network Stock Scams

Details remain sparse, but it all started some years ago, when undercover agents at the Drug Enforcement Administration infiltrated a cocaine-smuggling ring at the busiest seaport on the East Coast. As the DEA pursued longshoremen with nicknames like Forty Dog and Boom and Greek and Chingy, its agents stumbled, really by accident, onto a racket of stock fraudsters -- separate from the stevedore coke traffickers, but with some overlap.

Just as one group of longshoremen allegedly got paid as much as 100 grand apiece to remove duffel bags of cocaine from containers lifted off of ships that had arrived from South and Central America -- all while avoiding the scrutiny of customs agents patrolling the docks -- other port workers were allegedly getting paid to bid on penny stocks and post fake recommendations on Facebook and Twitter as part of a classic pump-and-dump scheme -- all while evading the scrutiny of the Securities and Exchange Commission.

At least that's what Preet Bharara, U.S. attorney for the Southern District of New York -- the office whose famed financial crimes unit has prosecuted just about every major Wall Street fraud case in the country's history -- alleged in a complaint on Tuesday when the feds unveiled charges against 22 defendants.

Half of that number, most of them longshoremen, were involved in the cocaine probe, which also resulted in the seizure of 1.3 metric tons of the stuff, worth $34 million, according to the feds. The other half were part of the stock-fraud case, with only one longshoreman, named Juan Rodriguez, charged so far.

Indeed, the brains behind the stock-fraud operation were apparently located far from the New Jersey harbor front, in places like Boca Raton, Fla., a city with its own storied history of equities-related funny business. Similarly, the longshoremen who peeled packages of coke from the insides of containers were also merely cogs in a far larger organization, governed by a Panamanian drug ring, which allegedly moved cocaine in 100-kilogram batches, stashed in container ships passing through the Panama Canal. portofnewyorkharborpr

(One longshoreman, a boss at the port, may have been the liaison between the Panamanians and the stevedores. Named Arnold Rodgers, he was involved years ago in an investigation into a drug-smuggling outfit that imported heroin into the U.S. from Afghanistan. This time around, Rodgers escaped arrest by the feds; he remains at large.)

The fraud case, meanwhile, had all the stock-scam earmarks familiar to anyone who's read Born to Steal, the Mob on Wall Street chronicle written by TheStreet contributor Gary Weiss. The group charged on Tuesday targeted penny stocks -- whose illiquidity makes huge price swings easy to orchestrate. (The complaint did not say which stocks were manipulated by the alleged fraudsters, and a spokeswoman at the U.S. Attorney's office wouldn't comment.)

Participants in the pump-and-dump swindle posed as stock-picking experts, posting their recommendations on "multiple Web sites." Other than Facebook and Twitter, the complaint did not say which web sites the alleged fraudsters used.

The bullish entries evidently duped plenty of people into investing in companies with suspect business prospects. The feds say the group netted about $3 million through their pump-and-dump scheme and cost those investors who bought high and sold low more than $7 million. The one longshoreman named as a defendant -- Rodriguez -- was tasked with "generating trading volume that 'pumped' stock prices in penny stocks," the feds alleged in the complaint, suggesting that Rodriguez put money into those equities in order to help create a temporary updraft in their prices, and/or that he was among the authors of stock-tip posts that sparked enough investor interest to drive share prices higher.

Next, of course, came the dump part of the scheme. After the alleged racketeers sold out and reaped their profits, "the fraudulent recommendations ceased, and victims who purchased while stock prices were on the rise lost a significant portion of their investment, sometimes within hours."

It's a problem as old as the Internet itself: Financial message boards and instablogs whose well-known freedoms allow users to join the online conversation surrounding individual stocks. The only problem, of course, is that posters' identities are, at best, simply anonymous or, at worst, fictionalized so as to make the posters appear to be experts in the field.

That's what happened in another recent case of stock fraud emanating from the urban penumbra of New York City. A possible member of the Gambino crime family, name of Michael Scarpaci, pleaded guilty on Thursday to running an illegal boiler room on Staten Island and, further, of spinning an entire fictional investment firm out of whole cloth, complete with fake Wharton-trained analysts and a phony hedge fund with a nonexistent $1.4 billion under management. To complete the scam, all Scarpaci needed to do was set up a Web site that said these things. In the end, prosecutors say, he got away with $20 million.

"It's really a consumer-driven fraud," Weiss said Friday of the longshoremen case. The demand for stock-picking material is fierce, in other words, quality be damned.

"I mean, nobody can force you to follow some idiot on Twitter or 'friend' some moron on Facebook. People have lost money in the market, and now they want to make it back with penny stocks. It's like the old saying," added Weiss, before making sure to cite Clifford Odets, the playwright, as the source of the line: "'He liked the taste of the water, so he dove into the well.'"

-- Written by Scott Eden in New York

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Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

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