The Saul Stratton Scam: Understanding the Belfort Brokerage Scheme

In the movie The Wolf of Wall Street, Jordan Belfort's brokerage is depicted as a high-pressure sales operation, epitomized by his mentor Saul Stratton. This article delves into the tactics used by Stratton and his team to extract exorbitant fees from clients, focusing on the penny stock market and the intricate schemes behind these transactions.

Introduction to Saul Stratton and the Penny Stock Market

To truly understand the Saul Stratton scam, it's important to familiarize ourselves with the context of the penny stock market and the strategies employed by brokers like Stratton. Penny stocks are shares of small, often unprofitable public companies. These stocks trade for less than $5 and are typically associated with high risk. Investors are frequently enticed by the prospect of high returns, but often find themselves at the mercy of brokers who exploit their naivety and trust.

The Saul Stratton Scam: From Trust to Exploitation

Saul Stratton and his team employed a sophisticated scheme to betray the trust of unsuspecting clients. The strategy began with the initial sale of triple-A rated blue-chip stocks. These stocks, known for their reliability and low risk, were used to build a foundation of trust. Once the trust was established, the game would change, and Stratton's team would unload penny stocks on the unsuspecting clients.

The fees for these penny stocks were exceptionally high, typically around 50%. This unreasonable charge would have been impossible to overlook. However, Stratton and his team had crafted a convincing narrative, suggesting that these charges were minimal and justified by the potential for significant gains. This is a classic example of a confidence game, where the con artist builds trust first before exploiting it.

Understanding Broker Fees for Penny Stocks

Broker fees for trading penny stocks are determined by the market makers and brokers. For stocks priced at under $1 per share, most brokers charge between $0.0075 and $0.01 per share. However, in the 1980s and 1990s, there were fewer regulatory limits on these fees, allowing brokers to charge substantial amounts. In addition to the per-share fee, brokers would also charge a yearly percentage and a generous "account transfer" fee. These additional fees significantly escalated the cost of trading, ensuring that the clients were unlikely to walk away.

Brokers often used aggressive sales tactics to convince clients that these fees were reasonable. For instance, if a stock was priced at 2 cents per share, the broker might say, It's only a penny a share fee, which is really nothing, and the 1000 it goes up will practically erase that from your memory. Such euphemisms were part of the psychological manipulation that kept clients in the game.

The Pump and Dump Scheme

The Saul Stratton scam went beyond just charging exorbitant fees. The real heart of the operation was the pump and dump strategy. Stratton would first pump the price of a penny stock, inflating its value, and then dump the shares, pocketing the profits while leaving clients holding the bag. This was achieved through coordinated buying and selling, often with Stratton's sales team feeding false information to clients to create a sense of urgency and demand.

The process typically worked in this manner:

Phase 1: The Pump - Stratton and his team would inflate the value of the penny stock, often through false news and aggressive marketing. Phase 2: The Con - Once the price was inflated, they would sell, and because the stock had been overvalued, the price would crash. Phase 3: The Dump - The clients, now in a state of panic, would sell their shares at a significant loss. Phase 4: The Repeat - This cycle would continue, as new clients were brought in to replace the ones who got burned.

Despite these clear-cut unethical practices, the Steve Madden IPO seemed to provide a temporary reprieve, increasing their notoriety but also bringing them under increased scrutiny. Ultimately, they were unable to sustain their scheme due to the inevitable backlash and legal actions taken against them.

Conclusion

The Saul Stratton scam highlights the darker aspects of the stock market and the lengths to which some brokers would go to extract profits. The movie The Wolf of Wall Street provides a gripping portrayal of this scheme, but the reality is often even more perilous for unsuspecting investors. Understanding the mechanics of penny stock trading and the strategies employed by unscrupulous brokers can help protect investors from falling victim to similar schemes.