Top 5 Ways to Spot (and Avoid) Investment Scams - Physician on FIRE (2024)

Investment scams have been in the news recently, and it pains me to see honest, hard-working people forfeit their money to lousy, greedy thieves. It happens more often than it should, and it can happen to you.

Don’t believe it could happen to you? Congratulations! That makes you all the more likely to become a victim, as JL Collins states in You, Too, Can be Conned. The timing is ripe, as in 2019, authorities in the U.S. uncovered 60 alleged Ponzi schemes defrauding investors of 3.25 billion dollars.

In a news release dated February 11, 2020, the SEC detailed how 150 investors were defrauded in a $33 million investment scam, many of whom were lured by a surgeon. Physicians were the targets of this scam, resulting losses averaging $220,000 per “investor”.

When you imagine a typical victim of an illegal scam, you may picture a senile widoweror a gullible dreamer, but young, intelligent, and pragmatic people fall prey to investment scams far too frequently. Know what to look for, and you’ll greatly decrease your odds of being among them.

Investment scams come in a variety of forms. Someone may be selling something they don’t even own. They may be grossly overstating the value or potential value of what they’re selling.

The scammer may be making promises they can’t keep, writing checks their butts can’t cash.

Let’s look at a couple of the more infamous scammers and one very recent one.

Charles Ponzi

In the early 20th century, the Italian-American Charles Ponzi, who had previously been jailed for check forgery and for smuggling immigrants across the U.S. border, recognized an arbitrage opportunity using postal reply coupons (stamps, essentially).

These were stamps that could be purchased in Spain and used to send mail from the United States back to Spain. The price for the stamps in Spain was significantly lower than the cost to mail something overseas with postage purchased in the U.S.

He wasn’t wrong; there was a true arbitrage opportunity with a substantial price difference for a product that accomplished the same thing, available in two different markets.

One could theoretically set up a business model to purchase the postal reply coupons in Spain, ship them to the U.S., find buyers in need of them in the U.S., and sell them these stamps for less than the price of U.S.-based overseas postage.

Mr. Ponzi formed the Securities Exchange Company with this idea in mind. However, he skipped the logistics aspects and went straight to investors for seed money, initially offering a 100% return in 90 days, and later in the scheme, a 50% return in 45 days.

Apparently, neither he nor his investors paid much mind to the potential scale of such an operation. To pay back his initial 18 investors who put in $1,800 apiece, 53,000 stamps would have to be bought and resold. Only 27,000 such stamps were even in circulation.

He didn’t stop at 18 investors. No, there were many thousands of investors, including about 75% of Boston’s police force. By July of 1920, nearly one million dollars a day was being invested in his scheme.

Of course, previous investors were being paid with new investors’ money, and the house of cards ultimately collapsed. Charles Ponzi spent 14 years in prison and ruined the financial lives of countless New Englanders.

Bernie Madoff

Bernard Madoff didn’t have a unique business idea like Ponzi did. He began his career as a legitimate stock broker peddling penny stocks in 1960. His firm managed investors’ money in the stock market and operated legally for decades.

He earned people’s trust and a solid reputation.

The legitimacy of his operation didn’t change until the late 1980s or early 1990s. That’s when he started “robbing Peter to pay Paul,” manipulating clients’ trade reports to show trades and gains that weren’t actually made.

He used his network, reputation, and religious affiliation to target wealthy Jewish communities and families and Jewish charitable organizations, although his victims were not exclusively Jewish. Victims included celebrities Kevin Bacon, Kyra Sedgwick, Zsa Zsa Gabor, John Malkovich, Larry King, and Steven Spielberg’s foundation.

The returns he seemed to be generating raised eyebrows as early as 1999, when forensic accountant Harry Markopolos concluded that Madoff’s returns were highly unlikely to be legitimate. His alerts fell on deaf ears at the SEC, as he later documented in a book entitled No One Would Listen.

By 2008, Madoff’s investors had withdrawn nearly all that was left in their combined accounts, when there should have been many billions.

Estimates are that about 4,800 investors invested a total of $36 Billion and withdrew $18 Billion over the life of the scam. That’s $18 Billion dollars missing, for an average loss of $3.75 Million per investor.

For his crimes, he plead guilty and received a 150-year sentence, essentially a life sentence at age 71.

The Income Store

In this press release from January 14, 2020 the SEC describes freezing assets of Todays Growth Consultant Inc. (TGC), a.k.a. “The Income Store” and charging its founder, Kenneth D. Courtright III, with running a Ponzi-like scheme.

“In exchange foran investor’s “upfront fee,”TGC claimed that it would either buy or build a website for the investor, and develop, market, and maintain the website.As alleged, TGC falsely promisedthat it would use investors’funds exclusively for expenses related to the investor’s website.In reality, as alleged, the sales were conducted through unregistered securities offerings, andTGC used new investors’ funds to pay investor returns, in Ponzi-like fashion, andto pay Courtright’s personal expenses, including his mortgage and private school tuitions for his family.”

You can read the full SEC Complaint here.

Mr. Courtright has obtained at least $75 Million from 500-plus investors for an average of about $150,000 each according to SEC documents.

I believe I had seen or heard ads for this “Income Store” before and rolled my eyes. It was mentioned briefly in a Facebook group for physicians in 2019 where it was correctly identified as a likely Ponzi scheme.

Investors were promised the larger of a minimum 13% to 20% return or half of the profits from a website set up for them.

As we’ll discuss below, guaranteed excellent returns are a huge red flag.

I don’t personally know anyone who lost money to this investment scam, but I do know someone who sold his website to Mr. Courtright’s company, so this one hits a bit close to home, just as the scam that targeted physicians does.

To avoid fraudsters like these guys, be on the lookout for the following traits of any proposed “investment opportunity.”

#1 Returns are Promised to be Outstanding

If it sounds too good to be true…

It almost certainly is.

Charles Ponzi offered to double your money in three months when banks were offering 5% per year.

Bernie Madoff’s investors quietly told their friends how they were consistently getting 15% a year in the stock market despite the fluctuations everyone else was seeing. Madoff asked his investors to keep their dealings with him hush-hush, though. Another red flag.

The worse you could do with The Income Store was 13%. Maybe 20%. Depends on when you invested and what documents you received.

Note that with the exception of Ponzi’s promise, these aren’t outrageous numbers. For nearly two decades from the early 1980s to the late 1990s, the U.S. stock market gave investors a compound growth rate of about 18%.

A number of higher-risk crowdfunded real estate offerings use leverage to achieve similar and higher internal rates of return.

An investment in Tesla stock from 1/3/2020 to 2/4/2020 would have more than doubled your money in one month and a day.

The difference is that these investment returns are certainly not promised or guaranteed. You make the investment knowing that the worst you could do is lose all of it and have nothing left.

There’s a reason many private investments insist that you are an accredited investor and are in a position where you can afford to lose money. There’s a chance that you will.

If all you are shown is incredible or unlimited upside with little or no downside, you’re probably looking at a scam.

#2 Investment is Touted as Low-Risk or No-Risk

There is no such thing as a free lunch.

When investing, you generally earn increased from returns by subjecting your money to increased risk, decreased liquidity (ability to cash out your investment), or a combination of both.

In our current economy, there is no investment offering double-digit returns without risk. If there was, only fools would hold money in savings accounts, treasury bonds, and other low-risk instruments.

In 1981, you could buy a treasury bill paying 14.5% but in 2020, an investment that earns even 5% in the U.S. will carry some level of risk.

Yes, we are living in the age of the 5% Ponzi scheme. Outsized returns are one sign of a potential scam, but you can be taken with more pedestrian guarantees.

#3 The Investment Found You

Which do you suppose is more likely to be a suitable investment: one that you search for and inquire about or one that seeks you out and asks questions about you?

In The Simple Path to Wealth, JL Collins tells of a clever scheme in which a person gets a stock tip in the mail that proves to be the right call. The next letter, the next letter, and the next letter, all from the same outfit, make predictions that come true.

What the recipient doesn’t realize is that only 1/2 the people from the initial mailing list got the second letter, 1/4 the next letter, 1/8 the next letter, and so on. You only stay on the list if you got the letter with the right prediction, while half of the households received a tip that turned out to be wrong and no further solicitations.

Eventually, those households who got the right combination of coin-flip stock tips receive a solicitation from the guru has proven himself to be correct again and again and again.

If you learned of an “investment opportunity” via snail mail, an e-mail, a cold call, a knock on the door, or a tip from a fraternity brother,that’s an investment that found you. Be suspicious.

Social media is the latest playground for these scammers, and it’s a fertile pasture. Any time an investment discussion is redirected to private or direct messaging (PM me for details), your Spidey Scam Sense should be tingling like mad.

#4 Insufficient Documentation

Get it in writing.

While this isn’t enough to safeguard you from an investment scam, if you can’t get the terms in writing, that’s a serious red flag. Any private investment should have a private placement memorandum (PPM) at a minimum, outlining the terms, risk factors, and how the investment will work.

If promised documents are “in the mail,” but never arrive or you’re told you’ll receive all the details after making your initial investment, this is not a good sign.

Sketchy details are the sign of a sketchy operation, in my opinion.

Before you entrust someone with your money, you can do a bit of research on them independently.

Do a Google search of their name. Click on the “News” tab to see what’s been written about them in the media.

Search their name in the FINRA BrokerCheck. Any formal regulatory actions, arbitrations, or complaints against them will show up.

You can also search for SEC actions against individuals who are not brokers with the SEC Action Tool.

I’ll add that you won’t and shouldn’t get some information in writing. As we’ve learned, investments with a possibility of high returns can’t possibly be assured, so if you do receive documentation that promises a double-digit return, that’s actually worse than being told honestly that no such thing can be guaranteed.

Additionally, just because it’s in writing, does not make it true. Some promises aren’t worth the paper they’re printed on.

#5 The Investment is Too Complex to Comprehend

If you can’t understand an investment and explain it to a 5th-grader, you probably shouldn’t invest.

In The White Coat Investor’s review of Money for the Rest of Us,he outlines the 10 questions you should ask (and answer) about an investment. Question #10 is “Should you invest?”. If you can’t answer questions 1 through 9, or don’t like the answers, then, no, you should not.

Watch out for buzzwords.

Propietary. Algorithm. Forex.

“Over a scratchy international phone line, Madoff told me he was in Switzerland; I asked Madoff how he was able to accomplish his amazing returns. “I can’t go into it in great detail. It’s a proprietary strategy.”” –Erin Arvedlund, author of Too Good to Be True: The Rise and Fall of Bernie Madoff

The Forex scammers are active on Facebook, and they work in the shadows. More than once, I’ve had to boot people out of my fatFIRE group for hinting at “proprietary strategies” or algorithms on the main page and then private messaging other members about their Forex wins in what is likely the beginning of an extortion attempt.

If a system, strategy, or algorithm gave someone a big leg up on the competitors (other investors earning market returns), why would they share it with the competition? The competitive advantage (a.k.a. alpha) would swiftly disappear when it becomes known and understood. It would be wiser for the investor to reap the profits for himself or herself.

I’ll end #5 the way we started #1.

If it sounds too good to be true…

A Note on Wire Fraud

Selecting an unwise investment is not the only way to become a victim of fraud. You can plan to invest with a legitimate company and still have your money swindled away.

Any transaction that requires money to be sent by wire can be at risk of wire fraud. I’ve wired money to purchase property, make investments, and even to purchase my wife’s engagement ring.

When sending money by wire, always call the recipient before setting up the wire to verify all of the information. Have them read the account information and address to you, not vice versa. Do not get the phone number from the same email or file that has the wire information. Find it independently on the company’s website or a public directory.

Why is this step so important?

An acquaintance of mine was planning to make an investment by wire. His email was compromised (hacked). The hacker sent an email that looked like it came from the investment company, but the address was “spoofed,” or faked. That email contained false wire information. It may have also had a fake phone number manned by someone who would gladly read back the fake account number and routing number.

The investor wired the money to the hackers and lost the money he thought he had invested. The only small solace is that such losses can be deducted on a tax return, so he may have “only” lost maybe 55% to 65% of the original investment after the tax deduction is factored in.

Understand the risks of investing, especially when analyzing alternative, non-traded, non-public assets. Know the red flags, look for them, and you’ll lower your risk of being the mark of a con artist.

Finally, never let your guard down. If you know you can never be conned, you’ve forgotten that nothing is certain but death and taxes.

Stay tuned for a follow-up article next week looking more closely at the apparent investment scam that had one surgeon recruiting dozens of other physicians in a fascinating and ugly scheme that cost the investors some $33 million.

To be sure to catch that post and other new posts, enter your information to subscribe to Physician on FIRE. I won’t spam you or scam you, I promise! You’ve got that in writing.

What other red flags would you find alarming? What scams have you encountered? Have you invested or been tempted to invest in an “investment opportunity” that turned out to be an outright investment scam?