An SEC rule meant to protect retail investors from pump-and-dump schemes ended up restricting access to markets, giving an edge to professionals

A new SEC rule was created to protect retail investors against pump-and-dump schemes. It also blocks access to thousands more over-the-counter stocks.
Brokers can no longer quote OTC stocks for price if they don't have up-to-date financials.

However, the rule also restricts individual investors' ability buy stocks of sound businesses. Professional investors have an advantage.

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Since its inception at the end September, a new SEC rule was created to protect investors against pump-and-dump schemes. It has unintended consequences of giving professional investors an advantage over individual investors.

Since most pump-and dump operations exploit illiquid, over-the counter securities that don’t provide current financial information (pumping and dump), the rule was designed to stop brokers from offering price quotations for securities that don’t have the most up-to-date financials.

Jay Clayton, former Chairman of the SEC, stated last year that technological advances related to the rule change "enabled us to require OTC market information be more timely. This enables investors to make better informed investments decisions and reduce fraud in these markets which have significant retail presence and unfortunately pump-and dump and other frauds are all too common."

More than 2,000 securities trade on OTC Markets.

The rule change may make it more difficult for schemers and others to manipulate stock prices by providing false or misleading information, then dump shares onto unwitting investors. However, it makes it almost impossible for retail investors not to purchase OTC securities from profitable dividend-paying companies that haven't posted updated financials.

This has resulted in a sharp drop in stock prices and a decrease in demand for OTC securities. Retail investors who have an OTC stock that is now subject to the new SEC rule can only sell their securities and not buy more.

Canandaigua National is an OTC security that suffered a significant drop following the rule's implementation. This bank, which is a community bank in upstate New York, offers a 4% dividend payout and is profitable. This stock, which was barely traded before the rule change, saw its value drop 27% almost instantly.

"We are in a position where real opportunities lie before us, but we cannot take advantage of them!" The Wall Street Journal was informed by Dave Wetzel, a retired investor.

Professional investors still have the option to purchase OTC stocks that are covered by the SEC rule. This is to protect investors with less information.

David Waters, Alluvial Capital Management, is doing exactly that. It's creating an opportunity for professionals at the cost of retail investors. Waters stated that it was an unfair transfer value to The Wall Street Journal.