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Inside Five of the Most Pervasive Investment Scams


How these frauds work, the bait that's used, and the red flags to watch for.

Subject: Your lucky day is today!!!

I've figured out exactly how to pick the next Apple. In fact, over the last year I've had over a 3,000% return on my investment!!! There's absolutely NO RISK in the program I've come up with. But if you want a part of the action, you'll have to send me $399.99 today…

Maybe you're not sufficiently gullible to fall for an offer as transparent as the one above. But with the stock market taking as long as it has to gain back momentum, many investors have been looking for quick portfolio fixes in all the wrong places. Clinging to a promise of high returns or a chance to replenish a retirement account, the desperate (or shall we say, hopeful?) all too often end up grabbing opportunities that turn out to be straight-up frauds. And as we all should have learned from a crash course in Ponzinomics in 2008, the most cliché rule is still the most spot-on: If it sounds too good to be true, it probably is.

Here we detail five of the most prevalent investment scams being perpetrated today, and what you can do to avoid being a casualty of these assaults on your money.

Bernard Madoff
  • Bernie Madoff bilked investors out of $18 billion operating the largest Ponzi scheme in history.

1. Ponzi Schemes

Named after Charles Ponzi -- who didn't invent it, but made notorious use of it in the 1920s -- the Ponzi scheme is an investment fraud that involves the payment of purported returns to existing investors from funds contributed by new investors. Schemes like this demand a constant flow of money in order to keep going. If the fraudster can't recruit sufficient new investors, or if a large number of current investors want to cash out, the entire system collapses -- just as it did for Bernie Madoff on December 10, 2008 when his sons told authorities that their father had confessed that the asset-management arm of his firm was "one big lie." Total loss to investors: $18 billion.

The Hook:
Ponzi-scheme organizers ensnare new investors by promising to invest their funds in high-return, low-/no-risk opportunities. Unlike a pyramid scheme, investors don't have to help bring in new recruits to get paid. And when they make money, they naively assume it's from successful investments (since the source is never actually disclosed) when in reality, compensation comes from the newer recruits.

Red Flags: The US Securities and Exchange Commission (SEC) suggests looking out for other warning signs in addition to "high-return, no-risk opportunities" which include overly consistent returns, unregistered investments, unlicensed sellers, secretive and/or complex strategies, issues with paperwork (such as excuses as to why you can't see something in writing), and difficulty receiving payment.

In the Madoff case, however, many sophisticated investors were duped by the fraudster despite his complicated (in fact, fictional) strategies and secretive manner. Madoff's "play" was largely based on specific sorts of psychological manipulation, say some experts, which allowed him to gain investors' trust and thwart would-be efforts to verify his outrageous claims.
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No positions in stocks mentioned.

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