A Ponzi scheme is an illegal pyramid-type investment scam. It relies on money from new investors to pay earlier investors, making it appear as though there are higher returns on investment than is really the case. Such schemes, though often lucrative for the operators, tend to collapse as the pool of new investors dries up.
The term “Ponzi scheme” comes from Charles Ponzi, an Italian con artist who ran a series of scams in the early 1900s. Ponzi promised incredibly high returns to unsuspecting investors, but instead he kept most of the money for himself. He was eventually arrested for fraud.
Ponzi schemes are common today, with many con artists using new versions of the same old scams. For example, Bernard Madoff’s widely publicized securities fraud had elements of a Ponzi scheme. In a classic Ponzi scheme, no actual investments are made and the scammer simply pays earlier investors with money from new investors. Madoff, however, invested his investors’ money in stocks and bonds, and then shared the profits with them. He was able to fool both experienced and inexperienced investors alike, as well as attract new investors with the promise of higher returns compared to the stock market.
Protect Yourself
Investors need to be aware of the signs of a Ponzi scheme to protect themselves from fraud. According to the SEC, warning signs include promises of high returns with little or no risk, unregistered investments, lack of transparency, complex strategies, and a reluctance to answer questions or provide evidence of investment performance.
Investors should also be wary of investments offering unusually large returns, no matter how convincing the sales pitch is. If an investment seems too good to be true, it probably is. Remember, there is no such thing as a “guaranteed” return.
When investing, it’s important to consult a professional financial advisor and thoroughly research any potential investments. Doing your due diligence and asking the right questions can go a long way in protecting your investments from fraud.