Every year, over 31 million purchasers are victimized by investment fraud. The medium loss per investor is roughly $15,000. Individual losses run into hundreds of thousands of dollars. Most remarkable is that financial swindle targets ranked above financial non-victims with percentages of 58% and 41% respectively.
Why do many get scammed The #1 rule in fraud is “Don’t breed any mistrust.” High returns can go overlooked for decades. But, like Bernie Madoff shows, it will all show up at the end of the day. In 2013, the SEC listed over 700 enforcement efforts for investment scams.
A look at fraud would have to go back centuries to 300 BC. That’s about the timie a Greek merchant named Hegestratos took out an insurance policy. The merchant would borrow money and pay it back with interest on a ship’s cargo arrived. If the loan isn’t paid back, the lender had the rights to acquire the boat and its freight.
Hegestratos conspired with a few friends to empty his boat, sink it, keep the loan and sell the corn. His plan didn’t really work out. The ship’s crew and passengers caught him in the act and he drowned trying to escape.
Investment Scams: The First Insider Trading Scheme
Just a few years after American became a nation, it produced it first fraud. In the late 18th century, American bonds were like junk-bonds are today. Every wind of news about the colonies’ fortunes cause the value of the bonds to fluctuate. The trick for the investor was to be able to anticipate which direction a bond’s value was headed.
[drizzle]Alexander Hamilton, Treasury Secretary, worked to restructure American finance by replacing a variety of bonds issued by the colonies with bonds from the new country’s central bank.
William Duer, assistant secretary of the Treasury, was in the perfect spot to get in some profitable insider trading. Duer was among the first to know news which would drive up bond prices. He would tip his friends, trade in his portfolio and then leak that information to the public. Then all Duer had to do was set back and sell off bonds and make an easy profit.
Top Ten Investment Scams
- Charles Ponzi – $20 million lost by investors
Everyone has heard of “Ponzi scheme. It is titled after Charles Ponzi’s famous scheme where he promised profits of 50% in 45 days. Tenured investors were paid off with money from fresh investors.
Lesson: Get an independent 3rd party to write the statements
- Barry Minkow – Loss calculated at $100 million
When he was 19, Minkow saw his rug washing company go public and eventually reach $200 million in capitalization. Using false records and sales slips, it appears Minkow had built a huge and profitable business. Clients who were suspicious about overcharges on their invoices headed to an inquiry which uncovered Minkow’s revenue figures. Minkow was sentenced regarding almost 60 felonies.
Lesson: Again — Get a reliable 3rd party accountant is reviewing the statements.
- Jordan Belfort – Loss $200 million
Jordan Belfort was the subject of the TK movie “Wolf of Wall Street.” Belfort reached the silver screen by running a pump-and-dump scam in the 90s where agents would force up the cost of usually, junk stock and then cash out resulting in the stock’s value plummeting. Belfort was greedy and ambitious, and he hired several hundred brokers just like him to contact potential victims. Belfort was charged for securities scams in 1998.
- James Paul Lewis Jr. – Loss estimated at $311 million
Lewis dusted off a pyramid scam to defraud investors for two decades. Relying on new investors being referred by existing customers to find new victims, Lews became an SEC target in 2003. Seized documentation revealed that Lewis used investor monies to trade in foreign money and bought luxury autos and fancy jewelry. Lewis was convicted in 2006.
Lesson: Find a 3rd party accountant to deliver the financial statements.
- Sam Israel III – Damages estimated at $350 million
Israel lined up his investors and got them, collectively, a $300 million investment. Israel promised the investment would balloon to over $7 billion in ten years. In 1998 when the revenues were not up to the promised levels, Israel forged, and created fake, accounting reporting reports that demonstrated the investments were still growing. Israel escaped and eventually showed up on America’s Most Wanted.
Lesson: Again, make sure a reliable 3rd party is producing the accounting documents
- Michael de Guzman (Bre-X Minerals) – Loss estimated at $3 billion
Michael de Guzman claimed that he discovered precious metal in the Borneo Jungles. For three years, Guzman displayed multitudinous core specimens containing gold. Working for Bre-X Minerals, Guzman helped his employer’s stock jump to $6 billion from just a penny.
Eventually, the Indonesians became suspicious. Doing their research, the Indonesian government didn’t turn up one single gold flake, and Bre-X’s stock dropped to zero.
Lesson: Before putting your money in a prospecting business, double check that the specimens have been evaluated by a reliable expert
- Joseph Nacchio – Loss estimated at $3 billion
Nacchio masterminded a $3 billion scam centering around elevated stock valuations and insider dealing. Holding on to some stocks that he knew was going to plunge, Nacchio dumped the stock and made $52 million. The SEC sued, successfully, Qwest Communications in 2007 and convicted Nacchio on over 18 charges of insider dealing. Nacchio was also required to return the $52 million and had to toss in another $19 million in penalties.
Lesson: Does it need to be said again? Make sure a reliable 3rd party audits a company economic statements before buying.
- Bernie Madoff – Loss estimated at $65 billion
Madoff transmitted out fraudulent dividend records to investors making it seem their funds were well and growing. When the market collapsed, investors started asking for their money and Madoff couldn’t do it. $65 billion were lost through Madoff’s Ponzi scheme and were the largest such scheme in American financial history.
Lesson: For the last time, make sure a reliable 3rd party accountant is reviewing the investment opportunity’s statements
- Kenneth Lay and Jeffrey Skilling – Loss $74 billion
Ken Lay lost $75 billion of investors money when he inflated Enron’s financial health. It just took one year for the stock to fall from over $90 a share to under $1. At one time, the 7th biggest corporation in America, Enron ended 2001 in bankruptcy. Lay, who was charged with 11 counts, died on holiday while expecting sentencing. Skilling is still in prison.
Lesson: When a business is converting credits into income, it’s all downhill from there.
- Bernard Ebbers – Loss, $100 billion
WorldCom’s CEO, Bernard Ebbers, grew the telecommunications company to the 2nd biggest in America. Ebbers grew the company through acquisitions that left the business in debt. Ebbers exaggerated the business holdings by $11 billion even as stocks dropped to $64 per share to less than $1. Stakeholders lost around $100 billion.
Lesson: Ensure the business is not being creative with normal operating costs
How to Protect Yourself
In 2012, Doug Shadel, a former fraud investigator for Washington state, wrote, “Outsmarting the Scam Artists.” For the article, he interviewed “Jim,” who had been convicted of conspiracy to commit mail fraud in 2006.
During the interview, “Jim,” said he never targeted stupid people