Eight Common Types of Investment Fraud
News over the last decade has highlighted the horror stories surrounding fraudulent financial activity and its far-reaching impacts. According to financial regulators, millions of Americans are defrauded every year. With so many predators seeking to steal from innocent investors and businesses, it is important to understand the most common types of investment fraud so you can recognize the warning signs in time to prevent disaster.
Pyramid, Ponzi, Promissory: Pitfalls To Ponder
Pyramid Schemes: Pyramid schemes involve the promise of high returns in a short timeframe for doing nothing more than investing money and recruiting new investors. The hallmark of a pyramid scheme is an investment program that focuses solely on recruiting others to join for an investment or fee. Despite claims of legitimate products or services, the schemers use much of the investment money to pay “returns” to early-stage investors. Even if the products sold are legitimate, the pyramid will eventually collapse. At some point the schemes get too big, and the promoters can’t raise enough money from new investors to pay earlier investors. The fraudsters behind these schemes typically go to great lengths to make their programs seem like legitimate multi-level marketing opportunities.
Ponzi Schemes: These illegal pyramid schemes were named for Charles Ponzi, who fooled thousands into investing in a postage stamp speculation scheme in the 1920s. Ponzi schemes continue to function today in a similar “rob-Peter-to-pay-Paul” design, as money from new investors is used to pay earlier investors until the whole scheme collapses. Unlike a pyramid scheme, the underlying investment or assets usually don’t even exist in a Ponzi scheme. Money manager Bernie Madoff duped investors out of $50 billion in one of the most notorious Ponzi schemes in recent history.
Internet Investment Fraud: If you want to learn about a company, the Internet and social media can be both helpful and harmful, as organizations can manipulate what you discover about them online. Criminals use a variety of Internet tools – including online newsletters, spam emails, social media, and more – to spread false information. They also may build a sophisticated website to make the scam appear legitimate. The perpetrators of Internet investment fraud often reside outside of the United States, making it even more difficult to prosecute them and/or recover an investor’s funds.
Offshore Scams: Scams from other countries targeting U.S. investors are often called offshore scams. They can take a variety of forms, and many involve “Regulation S,” a rule that exempts U.S. companies from registering securities with the U.S. Securities and Exchange Commission (SEC) because they are sold exclusively outside the U.S. to foreign or “offshore” investors. Fraudsters will attempt to resell Regulation S classified stock to American investors in violation of SEC rules. Offshore scams make it difficult for U.S. law enforcement agencies to investigate the fraud and/or to rectify harm to investors when the bad actors operate outside of the country.
Promissory Notes: A promissory note is similar to a loan agreement, although usually containing fewer details. Typically, an investor agrees to loan money to the company for a set period of time. In exchange, the company promises to pay the investor a fixed return on the investment, usually principal plus interest. While promissory notes can be legitimate investments, those marketed broadly often turn out to be worthless. Most established companies have borrowing relationships with financial institutions, so individual investors should exercise extreme caution with this type of investment. Most valid promissory notes have to be registered with the SEC and/or the state in which they are sold and a licensed securities broker must sell them, so be sure to watch out for both. Conversely, promissory note schemes frequently include promises of “risk free,” “guaranteed returns.”
Affinity Fraud: These are investment scams that prey upon members of certain groups, such as religious or ethnic communities, the military, the elderly, or industry professionals. Those promoting affinity scams frequently are or pretend to be members of the group they are targeting to gain trust. They enlist respected community leaders from within the group to spread the word about the scheme; the leaders themselves often become unwitting victims of the scheme.
Market Manipulation (also known as “Pump and Dump” Fraud): When someone buys shares of a low-priced stock and then spreads false information to increase interest in the stock and its price, they have engaged in market manipulation. Investors then create buying demand at increasingly higher prices while the fraudster dumps his shares at the high price and vanishes. Pump-and-dumps used to be carried out by cold callers, faxes, or online newsletters. Now, the most common methods of solicitation are spam emails or text messages.
Advanced Fee Fraud: These schemes occur when an investor invests funds “for the deal to go through,” anticipating receiving something of greater value but then winding up with nothing. To take the deal, you must send a fee in advance to pay for the service or so a lucrative business deal can be closed. But investors will never see their money again. Watch out for verbiage or phrasing that includes the words “finder’s fee,” “commission,” or “incidental fee,” and, be sure to research your broker on websites like investor.gov.
Houston Investment Fraud Lawyers
If you were the victim of investment fraud or business fraud of any type, contact our Houston civil trial lawyers for help. If you incurred financial losses in connection with fraudulent acts or the bad advice of a financial planner, stockbroker, or investment advisor, our attorneys can help you claim compensation for your losses.