Circular Trading Definition

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Circular Trading Definition

What Is Circular Trading?

Circular trading is a fraudulent operation in which a broker enters sell orders knowing that offsetting purchase orders for the exact same amount of shares at the same time and price have been or will be submitted.

How Circular Trading Works

A trading strategy of this kind does not indicate a genuine change in beneficial ownership of the share. Circular trading artificially inflates volumes to demonstrate that a security has liquidity, to keep the share price at the desired level, and to demonstrate market interest in the stock. In many nations, the practice is prohibited or illegal.

How Circular Trading Manipulatesthe Market

Circular transactions, if they continue, may generate a misleading feeling of activity around a stock, influencing its price. For example, if the trading price of a security is on a downward trend and is about to go below levels desired by particular shareholders, a circular transaction might assist to support the share price by providing the appearance that new owners are purchasing the shares at the desired level. This activity may persuade others who are unaware of the strategy to invest in the stock, assuming that the transactions show a rising interest in the stock. There may even be some speculation that the corporation is preparing to provide information that, if made public, would cause the price to rise.

However, since the circular trade model does not reflect any actual action that is soon to be published, there is no foundation for such notion. If the price of the shares rises as a consequence, the value is fraudulently inflated. Once the scam is exposed, the manipulated stock price will fall in on itself, taking with it the monies invested by others.

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Some IPOs and penny stocks may be especially vulnerable to circular trade schemes, especially if some owners seek to create the illusion of heavy trading activity and excitement around a company. The goal is to urge the stock to be pushed up as a result of the attention the trading cycle receives. A circular trading system often involves numerous participants to give the idea of new owners acquiring shares but, in reality, the same shares are merely cycled around with no actual change in value.

Day traders may fall prey to such a scam if they are seeking for fresh investment possibilities, notice high volume on a stock, and buy in with the expectation that the shares would rise in value.

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