8 Most Common Investment Frauds You Should Avoid


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History is littered with cases of investment frauds that have changed everything. 

I keep hearing stories of how people have lost millions in investment deals that at first seemed genuine but turned fraudulent. When it comes to making investment decisions, one needs to be wise about it. I too, once upon a time fell for some of these fraudsters. The most important thing that I got out of that experience is learning from my mistakes.

Therefore, it is essential for investors to not only educate and familiarize themselves with basic financial skills and investments but also characteristics of fraud. This way, when the red flags come up, you will be able to recognize them and avoid being a victim. As such, you use your education and knowledge as your best defense against becoming a victim of investment fraud.

Investment fraud is multi-faceted and here are some of the most famous scams out there:

# 1 Ponzi Schemes

Also known as pyramid schemes, was named after Charles Ponzi.  A swindler from the 1920’s who infamously promised investors 50% return in 45 days. He made $20 million through his scheme in the 1920’s where both banks and individual investors fell for his scheming ways. How much money do you think $20 million is worth today?

Red Flags: The hallmarks and identifying characteristics of Ponzi Schemes are:

  • High returns with little or no risk
  • Provide overly consistent returns
  • Have unregistered investments and have unlicensed sellers
  • Have very secretive and complex strategies
  • Have issues with paperwork and experience difficulty receiving payments.

Note: All Ponzi schemes collapse.

Due Diligence: Make sure a 3rd party custodian authors the statements.

#2 Pyramid Schemes

Pyramid Schemes usually promise very high returns to lure investors. They use money from newer investors to pay off previous investors thereby adding credibility to the fraud. Older investors then provide testimonies that convince skeptical investors. This further fuels the growth of the pyramid. Please note that little to no actual investing ever takes place, and the fraud blows up when regulators or insufficient numbers of new investor enter to pay off existing investors. Thereby, initiating a collapse.

Note: All pyramid schemes collapse. Pyramid scheme still exist in hush-hush corners of our society. So beware.

Red Flags: The hallmarks are identifying characteristics of Pyramid Schemes are:

  • High returns with little or no risk
  • No genuine product or service is sold
  • Promises of high returns in a short time period
  • Easy money/passive income
  • No demonstrated revenue from retail sales
  • Complex commission structure.

#3 Advanced Free Fraud

Advance fee frauds ask for upfront payment before the deal can go through. This upfront payment may be described as a fee, tax, commission or incidental expenses that will be refunded later.

For instance:

  1. The famous Nigerian scams for helping a high-net-worth Nigerians move money out of the country.
  2. Receiving a bargain shipment of commodities that will never arrive.
  3. An offer for an interest-free loan from an offshore bank with an advanced application fee.

The list is endless, but the mode of operation is for you to pay an upfront payment for something that you will expect to receive later. Don’t be too trusting. A healthy dose of skepticism will always go a long way to save you later.

Due Diligence: If someone calls you about an investment that sounds too good to be true, run!

#4 Affinity Fraud

Most famous case of Affinity Fraud was by James Lewis a Financial Advisory Consultant. He cheated out $311 million from investors over a period of 20 years. He relied on referrals from clients to gain investors with the promise of high returns. He supposedly used investors money for trading foreign currency, purchasing luxury automobiles and expensive jewelry.

Anatomy of affinity fraud:

♦ Targets members of identifiable groups i.e. elderly, religious or ethnic communities with the fraudsters involved in the scam often are or pretending to be members of the group as well.

♦ They gain respect through enlisting respected leaders from the group to spread the word about the scheme, convincing them it is a legitimate and worthwhile as such the leaders (victims) promote the very thing they are victims of.

♦ These scams exploit the trust and friendship that exists in groups of people built through the tight-knit structure of many groups as such outsiders will rarely know about the scam.

♦ Affinity scams exploit trust and friendship within various groups.

♦ Take the form of Ponzi schemes or pyramid schemes system.

♦  Victims more often than not, always try to work things out among themselves rather than take legal action or report the matter to the necessary authorities.

Due Diligence: Make sure a respected 3rd party custodian is delivering the statements.

#5 High Yield Investment Programs

The high yield investment programs are unregistered investments and typically run by unlicensed individuals – and more often than not turn out to be fraudulent.

The hallmarks of High Yield Investment Programs:

♦ Claim that the privileged class has secret access to highly lucrative investments that a mere commoner s like us normally don’t invest in.

♦ Promise incredible returns at little to no risk to the investor.

♦ Promise annual (or monthly, weekly or even daily) returns of 30% or higher with access to the worlds elite bank portfolios -“prime banks”.

My Rule of Thumb: Avoid all forms of unconventional, high-yielding debt issued through non-verifiable sources. Especially one that claims to give ‘privileged access’. Any investment that promises anything higher than the current market rate of return, should raise a red flag.

#6 Internet and Social Media Fraud

Criminals are also very quick to adopt new technology and among the sea of legit businesses, larks criminals. The internet is no exception. They use social media, spam email, online investor newsletters, online bulletin boards and chat rooms to solicit interest from unsuspecting investors. Due to the fact that these offerings are made online, it is difficult to know whether or not they are legitimate, registered or licensed to conduct such business. Many of these frauds are not unique to the interest and range from  “pump and dump” schemes to promises of “guaranteed returns,” from “High Yield Investment Programs” to affinity fraud. So be careful.

The key to avoiding investment fraud on social media sites or elsewhere on the Internet is to be an educated investor and add a dose of skepticism.

#7 Pump and Dump Schemes

The scam is market manipulation through pump and dump scheme. The most famous case of a pump and dump scheme was by Jordan Belfort (of Stratton Oakmon a pump-and-dump firm in the 90s). The goal here is to drive up the price of stocks. Belfort and his partners at the firm would cash out causing the stock to plummet in value. Sound familiar in the local context?

How it works: To drive up stock demand, they would pump in large amounts of cash into a particular stock. Then they would get brokers to call unsuspecting people to buy this particular stock which is most likely not performing in such a manner that would warrant such attention.

#8 Precious Metals Fraud

There are many ways that you can get ripped off investing in precious metals and gems.  The most common of them is selling poor grade precious metals or purchasing a product that you have never seen. They will claim that it is kept somewhere for safekeeping and much more. Anytime these precious metals are offered at below market value, you should be very very skeptical.

Homework – The Investment Litmus Test (How to Avoid it)

After reading and learning about investment fraud, here is your take home. For every investment you intend to make, make sure it passes this basic tests threshold:

1. Only deal with Registered and Licensed Firms

Capital Markets Authority regulated, domestic securities and dealers have a lower risk of investment fraud than their unregulated and offshore counterparts.

Note: lower risk, not completely free from risk.

Therefore, never drop your guard against fraud even with regulated securities as there are still cases of broker fraud and institutionalized investment fraud. Being regulated simply means that the risk is lower due to higher regulation but, unfortunately, fraud still exists regardless of regulation.

2Be Aware of the Fraud ‘Warnings Signs’

As the markets keep changing, and investor keep burning their fingers trying to earn some money in the market.  Investment fraud also keeps changing its form over time – as we learn so do they. Fraudsters will attempt to sell the fraud by appealing to your personal desires for easy riches (there is not such thing as easy riches) and use their craft of deceit to separate you from your hard-earned money.

A lot of successful and very financially intelligent people fall prey to investment frauds because the persuasion tactics used are tailored to their individual psychology profile. However, I’d like to believe that there is always that gut feeling that all is not well. Listen to your gut! The following are the most common warning signs of investment fraud:

Unrealistic Returns – Unrealistic rates of return are a biggest red flag to investment fraud. An investment that offers a higher-than-market rate of return and little to no risk are almost always fraudulent.

Guaranteed High Returns – Most often than not, investment firms will hardly offer a guarantee for your investments – even banks don’t. Therefore, when someone approaches with offers of a guaranteed high return on investments, then red flags should be popping as that investment is likely a scam.

Pressure to Borrow –  If your adviser pressures you to borrow money to invest with them, then that should be the greatest warning sign. Fraudsters will often recommend that you borrow to invest.

Inside Information – Another flag involves exclusivity, especially where the information you are being offered is “confidential” or “inside information”.  They will claim to offer access to the worlds elite. Why it is a fraud? Registered firms are required to file public information, so there would be no reason to keep any details about the investment secret from the investors.

High-Pressure Sales Tactics – When the financial adviser uses high-pressure sales tactics to solicit funds from you.  You should be warned that the investment is most likely a scam. A legitimate opportunity should provide you with enough time to do your research and review any information needed to make an informed decision.

3. Cheques Should be Payable to Registered Firms, Not Individuals or Other Companies

Only hand over money to registered firms, not to advisers or other business entity – this is a red flag something is not right.

4. Be Skeptical & Seek to Understand Everything 

Always adopt a healthy dose of skepticism and do your research – Ask Questions, Verify, and Just Say No. This will serve as your first line of defense against investment fraud. Make sure you conduct your due diligence to uncover the less obvious cases of investment fraud before you ever lose your money.

Should it pass these tests, then I think you may be a bit safe. But, remember there is also institutionalized fraud so nothing is solid.

If it is anything to go by, historically speaking more people than we would like to admit get away with swindling money from innocent people. It is with the same effort, you too should safeguard yourself from being tricked by these cunning creatures called con-men.

Have you ever been a victim of investment fraud? We would love to hear your stories. Please feel free to comment below and let us know what tricks people have pulled on you in the past.

Otherwise, Happy Investing! 

You can click on the following links to read more on fraud and financial planning: 

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Irene Makanga
Irene has an MBA in Finance and is an avid businesswoman, passionate about financial literacy.


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