Hoax is a wake-up call for investors
The Star-Ledger - September 03, 2000
The Star-Ledger Archive COPYRIGHT © The Star-Ledger 2000
Date: 2000/09/03 Sunday Page: 001 Section: BUSINESS Edition: FINAL Size: 1731 words
By Sam Ali Star-Ledger Staff
On Aug. 25, investors in Emulex Corp., a California-based data-storage equipment maker, got the financial shock of their lives.
By 10:33 a.m., Emulex shares had spiraled from $113.06 to as low as $43, a 62 percent drop worth $2.52 billion in market value before Nasdaq finally slammed on the brakes and halted trading.
But for thousands of investors who lost a fortune, it was just the start of a very bad day. Within hours they learned even worse news - they had been duped.
A press release issued that morning through a service known as Internet Wire and used for a story by Bloomberg News claiming, among other things, that Emulex's chief executive had been fired and the company was restating fourth-quarter results was made up.
Authorities now say it was the hoax of a desperate 23-year-old California man who allegedly managed to sneak a fake press release onto Internet Wire, a fledging online public relations service, and trigger a chain reaction of panic that rivaled Orson Welles' fictional Halloween broadcast of "War of the Worlds."
Welcome to the dark underbelly of online trading, where the manipulation of news and rumors can earn the perpetrator thousands of dollars in a split second and cost honest investors much more.
"For investors, the main piece of advice, the main lesson they should take from this is to make their financial decisions based on homework and research and not headlines," said Marc Beauchamp, a spokesman for the North American Securities Admin-istration Association.
Although authorities arrested Mark Simeon Jakob Thursday, a former Internet Wire employee who allegedly pocketed $241,000 from the scheme, investors can take little comfort.
The Emulex fiasco serves as a grim reminder that the Internet's cloak of anonymity, combined with its ability to reach millions through its bulletin boards, chat rooms, electronic newsletters and press releases, is the perfect breeding ground for hucksters and con artists bent on disseminating false and misleading information.
Emulex, after all, is the fourth Internet hoax to upset the financial markets in 18 months. And no doubt there will be more, despite dire warnings issued by U.S. Attorney Alejandro N. Mayorkas last week that cybercrooks can run but can't hide from the law.
"When someone doctors up a good press release, it's the equivalent of asking someone not to accept a counterfeit dollar bill," said David Levine, senior adviser to the SEC's director of enforcement. "It's hard to tell a legitimate one from a phony."
Law enforcement officials maintain that in a matter of a few years, Internet securities scams have become the Boiler Rooms of the electronic age. Instead of fly-by-night brokerage firms operating out of basements and peddling phony stocks over the telephone, you have the Internet.
"Now with a click of the mouse one person can do it all," Levine said.
And the complaints are mounting. The SEC gets close to 200 to 300 allegations of wrongdoing every day at its online complaint center, mainly about bulletin-board advice and Web sites, according to Levine. Since it first started patrolling the Net in 1995, the SEC has brought 160 Internet-related securities fraud cases. Most of these civil cases are settled out of court, with the perpetrators paying large money fines, Levine said.
"And of the ones that go to trial, our track record has been just about perfect to date," Levine said.
Take away the Internet and the Emulex prank is perhaps one of the oldest tricks in the book.
In regular vernacular, putting out negative information about a company in order to profit when it plummets is known as a "bear-run." On the Internet, it's called a "cybersmear," Levine said.
In March, telecommunications giant Lucent Technologies Inc. fell victim to an Emulex-like cybersmear, when someone posted a fake earnings warning on a Yahoo Internet message board that was designed to look like a PR Newswire news release. Shares of Lucent slid 4 percent before the company notified the SEC and asked Yahoo to remove it.
The exact opposite of a cybersmear - and perhaps the most common Internet securities fraud currently being perpetrated - is the classic "pump and dump," scheme, Levine said. That is, putting out positive news on a company to "pump up," the stock in order to "dump it," later and pocket the proceeds, Levine said.
Last February, a cybercrook broke into the Web site of Michigan-based biotech company Aastrom Biosciences Inc. and planted a fake press release saying the company was being acquired. The stock price jumped 50 percent before the company spotted the fake release, shut down its Web site and halted trading of its shares.
And last June, Gary Dale Hoke of Raleigh, N.C., posted a fake Bloomberg News story on the Internet saying that PairGain Technologies Inc. - his former employer - would be acquired by an Israeli company for $1.4 billion. Hoke was sentenced to five months of home detention, five years' probation and ordered to pay $93,000 to about 30 investors who lost money.
Despite the prevalence of such pranks, investors can take heart in one thing: Authorities so far have a pretty good track record when it comes to nabbing the culprits and often apprehend a suspect fairly quickly. With Emulex, it took all of six days, although federal authorities say they were hot on Marc Jakob's trail from Day One.
"People think the Internet is somehow anonymous," said Beauchamp, of the North American Securities Administration Association. "They're mistaken. People who use the Internet leave electronic footprints and when regulators want to spend the time and money, they can find these people."
And regulators have been spending the time and money.
To combat the onslaught of cybercrimes, the SEC and state regulators have expanded their Web policing, Levine said.
The SEC has what it calls a "cyberforce," some 240 employees who surf the Net for suspicious postings several hours a week as well as eight branch offices nationwide staffed with five or six attorneys that do nothing but investigate and prosecute Internet securities cases and crimes.
In the past two years, the SEC has conducted three police sweeps of the Web. Last October the agency filed 23 actions against 44 people who were promoting 235 stocks illegally; in February, it filed 4 actions against 13 people; and in May 1999, 14 actions against 26 people.
Typically, companies that are hired to disseminate press releases, such as Business Wire or PR Newswire, say they have a number of safeguards in place to ward off would-be pranksters who want to submit fakes - password-protected Web sites, for example, or a strict call-back system that verifies the authenticity of the press release.
In the Emulex case, however, all the safeguards appear to have failed because Jakob, a former employee, allegedly knew how to bypass them all.
Jakob convinced one of two night-shift sales people that the material had been pre-approved during the day and he orchestrated the fraud to recoup severe losses he suffered on trades one week earlier, authorities said.
Michael Terpin, president of Internet Wire, did not return calls for comment. But he said in a prepared statement that Jakob's previous employment with Internet Wire explains why the company's security protocols were breached.
"We are pleased the investigation progressed so quickly," Terpin said in a statement. "At the same time, we are saddened and shocked."
On Friday, a class-action securities suit was filed against Internet Wire and Bloomberg - the first news organization to report the fake release - on behalf of investors who sold Emulex common stock or call options or bought options between 9:30 a.m. and 1:29 p.m. on Aug. 25 and lost money.
Bloomberg, which has come under fire for running a story based on the release without first calling Emulex, has since started identifying exactly which press release service supplied them with the information they are reporting - whether it's Business Wire, or PRNewswire or Internet Wire.
"Some people perceive it as a new strategy move, but to me it's just common sense," said Bloomberg editor-in-chief Matthew Winkler. "In my weekly notes to the staff, I have said, look, don't assume anything and don't assume the reader knows more than he or she does, so when you write a story be clear about how we know what we know to the last detail."
Competition is fierce among Bloomberg, Dow Jones and Reuters to report market-moving news first to investors.
Experts advise investors to be wary of even bona-fide press releases.
Press releases are, after all, paid marketing tools designed to divulge information in the most favorable way possible about a company.
And it's not uncommon for companies to polish and preen the truth a bit - leave out key information, such as certain losses, for example - in order to make themselves and its stock appear more attractive to investors, experts say.
"This should be wake-up call to all investors," said William Lauderback, a spokesman with The Electronic Traders Association. "And it ought to be a wake-up call for the regulatory community and the press as to the importance of keeping one's head when stuff like this is happening."
Unfortunately for investors caught in the hoax, there's little they can do now except lick their wounds and learn from their mistake.
Despite repeated pleas by investors on Internet chat rooms and message boards that regulators nullify all Emulex trades that took place on Aug. 25, such a scenario is not likely to happen.
The National Association of Securities Dealers has stated that "all transactions prior to the halt will stand."
And Stuart Kaswell, general counsel for the Securities Industry Association, said nullifying Emulex trades would be a logistical nightmare and would set a dangerous precedent.
"You can't start down that road," Kaswell said. "There are rumors that circulate about stocks all the time and if everyone demanded a refund when they believed a rumor, we wouldn't have any capital markets at all."
In other words, stocks don't come with money-back guarantees, so, buyers beware.