Uncertainty is Fertile Ground for Scam Artists
FORECASTS & TRENDS E-LETTER
IN THIS ISSUE:
1. New Scams, Same Old Results
2. Ways to Help Avoid Investment Scams
3. Conclusions – Do Your Homework!
Over the almost 10 years of writing this E-Letter, I have warned my readers about a wide variety of investment scams. Unfortunately, as the years go by the list of the most popular fraudulent investments tends to stay the same. That means that investors are continuing to fall for the same dubious schemes year after year. I guess fear and greed are still alive and well in the minds of investors.
You might think that the very public discussion of Bernie Madoff’s Ponzi scheme back in 2008, among many others, would have raised investor awareness of these scams, but such is not the case. Plus, creators of these bogus investments are an inventive lot and are very good at customizing their pitch to fit the current economic environment.
Today, we are faced with fear of stock market losses, the very low returns on fixed assets and the lure of non-standard investments like gold, silver and even currencies. We are also seeing the retirement of Baby Boomers, many of whom have not saved enough for retirement and are looking for high returns with low risk. This fear and uncertainty provides fertile ground for scammers who are interested in only one thing – transferring your savings into their pockets.
In today’s E-Letter, I’m going to discuss some of the new investment scams making the rounds. I’ll also revisit some very good advice about how to avoid becoming a victim of investment fraud that I have previously shared with my readers. This information is important for everyone to know, so feel free to forward this E-Letter to your friends and family members, especially those who may be at or near retirement.
New Scams, Same Old Results
To say that there are a lot of new investment schemes may be a bit of a misstatement, since many of the mechanics of these schemes have been around for a long time. They’ve just been repackaged to fit the current worries produced by global uncertainty, low rates on fixed income investments and increased stock market volatility.
Plus, there are some investment scams that are not necessarily designed to take all of your money. Instead, these scams offer investments with outrageously high fees and commissions, or that may be totally unsuitable for the buyer. Here is a list of cons that you may run into on the Internet or in your mailbox:
The bulk of free-lunch seminars are promoted as being educational, but the same SEC investigation found that 100% of those studied were little more than sales presentations. Knowing that there is a better than 50% chance that the free-lunch seminar invitation you receive in the mail may subject you to a risk of being scammed, perhaps it might be best to just say “no.”
The Financial Industry Regulatory Authority (FINRA) and the SEC have identified a number of investment scams aimed at people at or near retirement that are big on promises but short on delivery. The problem is that many of these promoters use sales tools that are often used by legitimate financial firms, making it hard to tell a scam from the real thing. FINRA and the SEC have developed the following fact sheet that outlines various retirement scams and ways to recognize them:
Also remember that scammers know that retirees are very interested in guaranteed results and low risk. Since most types of investments cannot guarantee that you won’t lose money, be wary of anyone who promotes a product that promises to do so.
FINRA has recently warned investors about gold mining stock scams that are based on claims difficult to verify. Plus, gold mining stocks are just that – stocks – and a stock’s price does not always follow the price of gold. A better option may be purchasing physical gold from a reputable dealer or investing in one of the exchange-traded funds that offer a security backed by physical gold.
Other gold-related scams include paying pennies on the dollar when purchasing your “unwanted jewelry” and selling fake gold coins and bars. Some scams even sell gold coins and/or bullion and then promise to keep it in a secure vault when, in many cases, the gold doesn’t really exist. As with any investment, always check out the company offering gold to make sure they are reputable and avoid high-pressure tactics that suggest that you cash in all of your other investments to invest in gold (or anything else).
The Internet has made offshore investing scams even more commonplace as it is now easy to reach literally millions of online investors. While many offshore investment opportunities offer tax benefits, they often end up subjecting the investor to charges of tax evasion. In others, the investor turns over control of his or her money to an offshore entity, often never to see it again.
If you are considering an offshore investment just remember that the federal government really doesn’t like US citizens trying to move money offshore to escape taxes. As a result, it is very hard to accomplish this goal legitimately. I’m not saying it can’t be done, but most investors won’t want to take the time and expense to do so.
The FBI has identified scams in which bogus reverse mortgage firms attempt to steal the equity away from homeowners through a deceptive reverse mortgage. This often occurs by convincing seniors to take out a reverse mortgage and then invest the proceeds into a bogus investment. In other cases, seniors were used as straw buyers in property flipping scams.
Legitimate reverse mortgages are insured by the Federal Housing Authority and offer protections for those entering into such transactions. Always be wary of anyone wanting you or an elderly loved one to take out a reverse mortgage solely to invest in a “once-in-a-lifetime” investment.
While the above list of scams isn’t exhaustive, it does cover some of the new wrinkles given to time-tested fraudulent investment schemes.
How to Avoid Investment Scams
If you think that a government regulator or law enforcement is going to protect you from investment scams, you’d be wrong. Most hucksters work outside of the regulatory umbrella, even though many claim to be licensed to sell insurance and/or investments. The difficulty in preventing investment fraud was recently brought to light when an individual already convicted for investment fraud was found to be operating a new scam while serving the last six months of his sentence under house arrest.
Then there’s the story about a financial advisor who provided investment advice to officials from the FBI, Drug Enforcement Agency, US Customs and Immigration Enforcement and others. Obviously, these individuals were no dummies but the advisor was found to be running a classic Ponzi scheme disguised as a tax-free government bond fund. The advisor promised annual returns of 8% to 10% but ended up bilking his law enforcement clients of apprx. $34 million, according to the SEC.
The old tried-and-true advice in relation to avoiding bogus investment schemes is that if it sounds too good to be true, it probably is. This is still the “gold standard” of analysis as far as I am concerned, but as I read about the various schemes that have defrauded investors, I find it rather amazing as to what some people will choose to believe.
However, investment scams are evolving with the times. When most investors think about too-good-to-be-true performance, they usually think about high double-digit or maybe even triple-digit returns, year after year. In the case of the bond fund discussed above that promised an 8% to 10% return, this doesn’t sound like an outlandish return so it slipped beneath the radar. In this scheme, it wasn’t the return that was questionable, but the consistency of being able to provide it year after year without fail.
In any investment that involves taking risks, it’s difficult to provide consistently positive returns each and every month for long periods of time. There are a number of other common characteristics of investment scams that I have outlined below:
1. Complexity – It is often difficult, if not impossible, to understand the business or trading model that the promised high returns are based upon. Sometimes, bogus investments are based on traditional types of business such as making loans, and they simply overstate the amount of interest that can be charged and allowed to flow through to investors. In other cases, promoters create a bogus trading system that sounds so complex that no one can figure it out (this was apparently the case with Bernie Madoff).
Scams are sometimes hard to spot because there are legitimate investments that also have complex trading systems that may be difficult for the average investor to understand. That’s why it’s often a good idea to run the strategy by a trusted financial advisor to see if it’s on the level.
2. Minimal Disclosures – In a lot of investment frauds, specific information about trading, historical track records or other matters surrounding the investment are often hard to obtain. Legitimate Investment Advisors usually welcome questions and will spend the time necessary to insure you understand the investments. Scam artists, on the other hand, will often be unwilling to offer much in the way of details about how their investments work.
You should be aware, however, that there are also many legitimate Investment Advisors and money managers who guard their trading systems carefully. These Advisors are often found in hedge funds and have developed quantitative strategies that take advantage of perceived market inefficiencies. If others in the market become aware of the trading strategies, these inefficiencies might disappear. So they protect them.
So, how do you tell the difference between a scam artist and a legitimate quantitative asset manager? I’ll have to admit that it’s not always easy to tell. The best answer I can give you is to do your due diligence and check out the investment completely. Verify licenses and registrations with regulatory bodies as well as actual track records, to the extent possible. The Internet is also a good tool, in that you can search to see if anyone has posted information about their experience with a given investment.
3. Secret Sauce – Many times, scam artists insist that they have a secret way to produce phenomenal returns on money. It may be a special type of investment you’ve never heard of, or a super-secret “insider” who provides tips on the market’s direction. Either way, it’s important to remember that there are few, if any, secrets in the investment world. Therefore, be wary of money managers who claim to have a secret source of investment knowledge or an inside track on matters that will affect the market. Trust me, they don’t.
4. Custody of Funds – Custody refers to where the money is held and is often most easily determined by asking who the check will be made payable to. Many scams are successful because the person selling the investment is the same person to whom checks are made payable. Therefore, always check out all of the parties involved with an investment transaction.
5. Testimonials - Beware of investments using testimonials from satisfied clients and/or celebrity endorsements. The use of testimonials is generally improper for Registered Investment Advisors and may be indicative of a scam. Also, never let a recommendation keep you from doing your homework, even if it’s from a friend. Remember that scam artists let some early investors win so that they’ll tell their friends about the great investment they’ve found.
6. Not Registered with Regulators – Most securities transactions require that the seller be registered as either a broker-dealer or Investment Advisor under applicable federal and/or state laws. Therefore, if an investment sounds too good to be true, ask the promoter if he or she is registered with the SEC, FINRA or state regulators. If an individual is a registered representative of a broker/dealer firm, their business card should contain the name of the broker/dealer organization they represent.
Go to the following websites and follow the instructions for finding a representative or advisor. It will be well worth your time:
For broker/dealer registered representatives:
For SEC registered Investment Advisors:
Some smaller Investment Advisors are registered at the state level rather than nationally. If a promoter claims state registration, contact your local state securities department or agency to verify their credentials. If the person you are dealing with claims to be a life insurance agent, then you should check with your local state Department of Insurance to verify licensing.
Be aware, however, that not all investment opportunities involve registered securities or require that sales personnel be registered. That’s why many investment scams dwell in the netherworld of unregistered investments. Often these are promissory notes, legal settlements and sometimes even physical assets such as equipment that the promoter claims to be exempt from SEC, FINRA or state registration and regulation.
Again, it’s hard to characterize all unregistered investments as scams since that’s clearly not true. It is, however, one of the warning signs that you should be aware of. Be sure to ask questions about registration with appropriate regulatory entities and check the investments and promoters out with federal and/or state regulators.
It all comes down to never thinking that you are so sophisticated or intelligent that you can’t be scammed. Remember that many victims of investment fraud include some very intelligent individuals. Unfortunately, intellect doesn’t exempt you from being swayed by the emotions of fear and greed. Plus, you should never do less homework on an investment just because the promoter is large and successful. It’s also important that you not be so intimidated by a charismatic promoter that you feel uncomfortable asking questions.
Most of all, however, you should seek to fully understand each prospective investment you are asked to consider so that you know what to expect. For example, some investors think that any investment they can’t cash out of immediately is a scam, but this is not the case. Some investments, especially hedge funds, have periods of time when you cannot request redemption of your account. This period of time is called a “lock-up period,” and is typically used by funds that invest in property or other assets that do not lend themselves to being sold quickly on the open market. But a lock-up period does not mean the investment is necessarily a scam.
I attended a conference once in which an attorney said that no securities regulator has ever issued a press release bragging of having foiled an investment fraud before people lost money. When you think about it, he’s right; we always seem to hear about investment scams after investors have lost most or all of their money. That’s why it’s imperative that you do your homework before investing in any non-standard investment. To help you out, here’s a list of the warning signs of investment fraud developed by AARP:
Think twice if you hear anything like:
To this, let me add a couple of insights of my own:
• There are no stupid questions when it comes to your money. Ask about anything you don’t understand or that makes you uncomfortable.
• Be careful of anyone suggesting that you put all of your eggs into one investment, no matter how good it sounds.
As I noted earlier, I periodically run articles about avoiding investment scams so that my readers will always know to exercise caution when evaluating investments. While the topic of this discussion may seem repetitive to my long-term readers, my hope is that this periodic review will keep you from falling victim to those in the investment industry who would seek to do you harm.
Plus, this article is an excellent source of information for new investors or other friends and family who may benefit from this knowledge. Please feel free to forward this E-Letter to anyone you know who may benefit from it.
Wishing you safe and sound investments,
Gary D. Halbert
As price of gold increases, so do the scams:
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