Friday, December 17, 2010

How to Avoid Becoming a Fraud Victim

Since Bernie Madoff's massive Ponzi scheme hit the news two years ago, there have been countless other Ponzi or pyramid schemes that have quietly failed under the radar. For example, have you heard of Sir Allen Stanford's Ponzi scheme? If you read this blog, you probably have but others I talk to haven't heard of Stanford's $7 billion Ponzi scheme. This is a new phenomenon brought about by the shear size of Madoff's scheme. Anything else seems insignificant. Prior to Madoff, a $10 million Ponzi scheme that came to light in a community would be big news and a $50 million scheme would make national news. Nowdays, a $200 million local Ponzi scheme gets mentioned by a small blurb in conjunction with the weather forecast: "Rain in the forecast tomorrow and investors lost $200 million in local Ponzi scheme. More on the forecast at 10pm." That's it--not even a complete sentence about the scheme!

So many Ponzi schemes have come to light in the past two years or so that I hope people are becoming wiser to the con artists who were thriving before the great recession. I'm also hopeful that the silver lining in the great recession is that these economic parasites will be cleansed from our colon and the economy can be more productive as a result. Unfortunately, unless we learn some basic lessons, my hopes may be unfounded. Here are my top five tips to keep the scammers away from your bank account.

  1. Watch out for friends and family who approach you. The reason many Ponzi schemes flourish is because the perpetrator gains unwarranted trust through what has been labeled "affinity fraud." Affinity fraud involves scamming your friends and family. It has been found in religious groups where, in Madoff's case, a Jew was scamming a Jew. Mormons scam Mormons. Baptists scam Baptists and so forth. It has also occurred in cultural groups such as the Haitian community in Florida where a Haitian scammed numerous Haitians. Don't just give your trust because a friend endorsed the "investment." Ask questions. Do your homework. Be skeptical, especially if the promises are a lot better than you can get from a conventional investment. That leads to my second tip.
  2. If it sounds too good to be true, run the other way! You've heard this before but don't forget it! Here is why. In almost all Ponzi schemes the perpetrator promises something that nobody else can deliver. He or she claims to have a trading secret that will bring high returns for low risk. Whenever you hear of a promise like this, run and run fast! There are no secret formulas for building wealth. The law of the harvest is alive and well and always will be: you reap what you sow. It takes hard work over a long time to make money. In order to get a high return on an investment you have to take high risk. If you're swinging for the fences, you will probably strike out most of the time and only occasionally hit a home run. This is even more true in economic terms than it is in sports. There may be a few Babe Ruths out there who can deliver 30% of the time (i.e. their batting average is .300). However, the stock market is full of bright people using computer programs looking for ways to squeeze every last penny out of trading profits. Other markets are the same. Commodities, futures, real estate, you name it. Do you think someone can come in and outsmart an entire market consistently--never fail? Even Babe Ruth failed about 70% of the time. Also, if they really can deliver big and consistently, they don't need your money. This leads to my next tip...
  3. Ask why you are being offered this deal of a lifetime and run every time the answer doesn't make sense! Why does this person need my money? A brilliant businessman won't need your money so why is he or she offering you this opportunity? If the opportunity is legitimate then why isn't the person using conventional financing such as banks or venture capitalists to get investors? Instead, he or she is promising to pay you some above market return if you will give them a few thousand dollars. Maybe he will give you 10% every three months if you will "invest." Why is this person so generous when he has a formula to make huge returns with little or no risk? Because you're his friend? or the friend of his friend...Another red flag is when the person is selling advice on how to make a lot of money. So he's getting rich selling treasure maps. Why is he selling the treasure maps instead of just using the maps? Don't buy it! The guy is getting rich selling a phony treasure map because he doesn't know how to find treasures only how to sell maps-and probably anything else he wants to sell. This leads to my fourth tip.
  4. Watch out for anyone who is very convincing. Fraud perpetrators get the title of "con man" because they build confidence; that is where the word "con" comes from. Almost all successful fraud perpetrators either do their dirty work in the dark such as embezzling funds or they are extremely good at building confidence in themselves. They use psychology to convince others that they are letting them in on the deal of a lifetime. They appeal to greed and the desire for wealth because they are experts in that area. Most victims have a little too much greed and not enough skepticism and common sense. Be patient and wise. No real investment will need you to act immediately or lose the opportunity. Take time to think it through and do your homework. This leads to my last tip.
  5. Do some basic research. Whenever you hear about a good deal, do a Google search for starters. Put in the basic buzz words that you're hearing accompanied by the word "scam" or "fraud" and see what comes up. Include the name of the company or the individual with these words and see what you can learn. If the scheme has been around for any time at all there will often be others who will have posted something on the internet about their experience. Many fraud perpetrators have a history. If you search the internet on someone's name and find others who have had bad experiences with him or her, lock up your wallet and run to the bank to get your 0.5% certificate of deposit. It's better than losing it all!
I took time to write this post because I hate to hear about fraud victims--especially when they are people I know. There are too many victims who are regularly losing their life savings. For example, today I read in my local newspaper about some victims who were swindled by someone they trusted. I know this runs counter to what I said at the beginning but for every article like this, I know of dozens if not hundreds of other cases that aren't even in the news these days. I sometimes go over the SEC's news releases and read about numerous Ponzi schemes--and these are only the few that are big enough to get the attention of this massively unfunded regulator. 

Watch out--there are plenty of scammers out there! If you use these five tips, hopefully you won't be one of them.

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