The guarantee of a quick 100 percent return on a stock used to be considered the sure sign of a huckster. But over the past 12 years, as double-digit returns have become practically standard among technology investors, and triple-digit returns are enjoyed by technology industry insiders (especially in the initial public offering market), the promise of sizable overnight profits is not the red flag it once was.

At the bottom of the market capitalization food chain, far below large-cap stocks (companies with market caps of $1.5 billion or more), even below small-cap stocks (companies with market caps between $300 million and $1.5 billion), are microcap stocks -- the sector of the market most susceptible to stock manipulation. Because they are generally thinly traded, microcaps are easy to manipulate; because their price per share is usually low, a relatively small rise in absolute value (say, $1) can translate into massive percentage gains (like 100 percent on a $1 stock). This gives brokers ideal fodder for outrageous claims.

MICRO-PHONIESThe brokers that use these stocks as a vehicle for fraud had been left for dead after the correction of 1987, but the Internet has given them new life. Their basic techniques are unchanged, but because of the success of Internet investors over the past three years, the returns they promise are no longer considered absurd. And through the Web they can reach more potential victims than ever before.

According to stock market regulators -- including the Securities and Exchange Commission, the National Association of Securities Dealers (NASD), the North American Securities Administrators Association (NASAA), and each state's attorney general -- microcap-stock scams have quadrupled in the past five years, and state securities regulators estimate that stock fraud currently costs investors nearly $8 billion a year. The key to avoiding microcap-stock scams is to recognize the difference between an opportunity and an opportunist.

Microcap investing has been with us for decades, but has existed in a universe all its own. Microcap companies cannot meet the minimum standards required for listing on the New York Stock Exchange or Nasdaq (they fall below a certain amount of net assets or number of shareholders), so their stocks are only available on the over-the-counter bulletin board (OTC BB) -- a system that is overseen by the NASD but not part of the Nasdaq stock market -- or in the "pink sheets," a weekly publication of the National Quotation Bureau.

Either way, the result is often the same: information can be scarce. While larger public companies are obligated to file periodic financial statements and other reports with the SEC, microcap companies have no such requirements. Moreover, Wall Street analysts rarely cover microcap stocks. In sum, investors have very few ways to check the claims of potentially fraudulent microcap brokers.

Unscrupulous brokerage houses that deal in microcap stocks are commonly referred to as "bucket shops," and the rooms in which their telemarketers labor carry the Dickensian label "boiler rooms." While some of the more infamous bucket shops of the mid-'80s -- firms like Stratton Oakmont, A.S. Goldmen, A.R. Baron, and Sterling Foster -- were shut down in the early '90s by various regulatory agencies, the overall approach to fleecing would-be stock speculators is alive and well.

PUMP UP THE VOLUMEThe classic scam is the "pump-and-dump." The objective: to pump up the price of a "house stock" by enticing individuals to purchase shares, then dump the house position, making huge profits while clients incur huge losses. Boiler-room personnel cold-call potential investors with exaggerated promises of inside deals on a "safe" investment with enormous potential. To lure investors, a bucket shop will "name drop," implying that the unscrupulous firm is associated with established Wall Street firms; to get investors into the house stocks, it will "bait and switch" -- suggest a reputable stock and then replace it with an internally held position. A bucket shop will ensure that investors stay in the stock by insisting on a "no net sales" policy (illegally preventing investors from selling their stock); to maximize revenues, each investor account will be "churned" (unauthorized excessive trading to generate commissions). As these well-organized promotions gain momentum, the house stocks will rise and, before long, the microcap promoters (usually in cahoots with company insiders) pull the rug out.

Regulatory agencies have been resolute in pursuing microcap fraud -- in August, the SEC announced the results of its second nationwide sweep in as many months, filing 26 actions against 82 microcap scam artists who reaped profits of more than $12 million and cost investors untold millions. But the sanctions that are usually imposed -- a modest fine and a brief suspension -- hardly prevent offenders from setting up new operations. "Sure, the big fraud factories have been broken up, but the real challenge is to find them at the new, smaller firms that crop up," says Brad Skolnik, president of the NASAA. "Unfortunately, fraud doesn't disappear, it just migrates."

SCAM JAMThe pump-and-dump is only one of many microcap stock cons. In June, California Department of Corporations (that state's securities regulator), in co�peration with the NASAA, issued a list of the top ten securities scams. Firmly entrenched in the No. 1 slot is affinity-group fraud -- when religious or ethnic groups make off with the loot of unsuspecting donators. But the balance of the top five, and six of the top ten, involve microcap stocks. Technology company investors should be aware of all of them.

• Internet fraudThe Internet is a perfect medium for microcap-stock scam artists -- it is a comparatively unregulated environment in which promoters can connect with an unlimited number of people for a fraction of the cost of other channels. According to William Kenefick, acting commissioner of California Department of Corporations, the concurrent rise in Internet use and microcap investor complaints is no coincidence. Currently, no less than 15 Web sites are dedicated exclusively to microcap companies, and information on microcap stocks (invariably rumors) flies quickly.
• Abusive sales practices"Sales of securities to unsuitable investors, failure to disclose critical information, and fraudulent offerings of securities and market manipulation have become increasingly common among licensed broker-dealers and agents," says Mr. Kenefick. "Particularly in the microcap marketplace."
• Investment-seminar activityIn perhaps the most audacious of these swindles, unlicensed financial planners not only reap rewards from the house stocks they are pumping, but they actually charge unsuspecting investors to attend investment seminars.
• Telemarketing fraudPart and parcel of the classic pump-and-dump, armies of telemarketers target unsophisticated investors -- most often the elderly -- with unsolicited offers of fraudulent, often illegal, microcap investments.
• High-tech products and servicesFraudulent venture capital firms target investors eager to participate in the private-equity boom by offering the opportunity to get in on the ground floor of easy-to-understand, consumer-friendly (but altogether nonexistent) businesses like 900 numbers, Internet service providers, and electronic-commerce Web sites.
• EntertainmentNo matter how small the capitalization of the alleged production company -- or how questionable its legitimacy--investors seem unable to resist the lure of getting in on movie deals.

Undoubtedly, there's money to be made on some microcap stocks -- in fact, many of today's market leaders made their debut on the public markets with capitalizations of less than $300 million, and many legitimate technology companies going public today are considered microcap stocks. But the smaller the stock, the more susceptible it is to manipulation.

Regulatory agencies are expanding their efforts to stop microcap-stock fraud -- the SEC and the NASD have increased the requirements for listing on the OTC BB, the NASAA continues its mission to educate investors, and the states' attorneys general and securities regulators have collectively agreed to step up their budgets to flush out bucket shops. But all admit that keeping tabs on every one of the estimated 4,000 microcap companies and the innumerable migratory scam artists, is impossible. Ultimately, investors must protect themselves. "Get the facts before you invest," says Nancy M. Smith, director of the SEC Office of Investor Education and Assistance. "Sometimes, all it takes is just one phone call to your state securities regulator to check out brokers and investments." And that call could save you thousands of dollars.

Cheryl Myers contributed to this article.Send comments to letters@redherring.com.