Here are precautions we can take to avoid ponzi schemes and not become victim to investment fraud.
In this episode you’ll learn:
- What are sources to determine the background of individuals and firms who are selling investment products and advice.
- What is the difference between registered investment advisors, registered investment companies and registered securities.
- How to analyze performance and fees to make sure they are acceptable before we invest.
- Why we need to be more wary if securities are not registered.
Show Notes
Investment Adviser Public Disclosure
Massive investment fraud fueled by slick marketing, hot dinners – Investment News
The Fall of ‘America’s Money Answers Man’ by Ron Lieber—The New York Times
Securities and Exchange Commission v. Jordan E. Goodman
SEC Charges Two Robo-Advisers With False Disclosures
SEC Charges New Jersey Man With Fraudulently Causing Advisory Firm to Overbill Clients
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Summary
In this episode of the Money For the Rest of Us podcast, David explains how to avoid investment fraud by taking practical precautions before jumping into an investment contract. While some fraud is difficult to spot, many fraudulent schemes can be avoided by simply asking questions and spending time in preliminary research. David shares some of his personal experience as well as practical insight into keeping your investments low-risk and diversified for a strong portfolio.
Knowing the character of who you are working with
David explains that in order for a company or individual to share investment advice, manage some else’s investments, or sell securities, they must be registered with the Security and Exchange Commission (SEC), the local authorities, or with FINRA. It is vital to know the background of whom you are considering to work with. Researching a company or individual can reveal customer complaints, legal proceedings against them, and the processes they use to manage their accounts. Even if it is a friend or an extended family member that you are wanting to seek professional advice from, check to see if they have gone through the proper registration procedures before entrusting your investments to them.
The second step you can take against investment fraud is understanding what the company or individual is promising you. What are their processes and procedures? How will your money be used, and where will it be going? How is the party making their own money, and what is generating your return? Are your interests in alignment with the company’s? David shares the devastating experiences that many endured with the Woodbridge Ponzi scheme—a fraud that ultimately fell apart but first tricked many investors into making investments that were difficult to withdraw.
Understanding registration and proper disclosure
Many investment frauds have been discovered with unregistered companies—such as with the Woodbridge scheme. David explains the difference between U.S. registered securities and registered investment companies. The latter commingles client money to invest in securities such as stocks and bonds. An example of a registered investment company is an open-end mutual fund. A registered security—such as a common stock—would include the details surrounding the security—definitions, descriptions, and information regarding the company’s dealings and financial history. Not all securities have to be registered, but David encourages caution when considering an investment in an unregistered security. Listen to the entire episode for more detail on how to decipher when it is and isn’t safe to deal with unregistered securities.
Many run into issues when important information hasn’t been properly disclosed, such as when compensation isn’t mentioned by those promoting unregistered securities or companies. David explores the case of Jordan Goodman who was paid by the Woodbridge company to promote their unregistered securities. Goodman encouraged individuals to invest with Woodbridge without disclosing he was receiving compensation based on each transaction. Advisors and firms should be open about their policies and management advice. David shares the precautions he makes to ensure authenticity throughout his podcast and former management dealings.
What is the performance record and where is the money going?
Researching the performance record of a company or individual you are considering investing with can help you avoid investment fraud by highlighting any red flags in past procedures. Do they follow the GIPS standard when compiling their performance composites? David explains that the best standard is having the composites verified by a third-party accounting firm. Other considerations to make when regarding the performance record is to make note of whether or not the performance is hypothetical or actually live. Understand the disclosures. How are client assets being managed? Taking the time to comb through the fine print can save you the headache of investment fraud later on.
David also explains the importance of knowing what fees you are paying and why. Using the Valley Forge Asset Management firm as an example, he warns against blindly agreeing to fees that seem to make sense on the surface but are actually a means for the company or individual to scam you into overpaying. Listen to the podcast for examples of what to avoid and how to spot the issue before it takes effect on your wallet.
Questions to ask to avoid investment fraud
Some fraudulent schemes can be difficult to spot. There are steps that you can take, however, to help you in avoiding investment fraud. Ask questions of the parties you’re investing with or considering working with. Are they registered? With whom? What are their disclosure statements? Has their performance record been verified by a third party? Do you understand the strategy being used and what their holdings are? Are the fees reflective of the proper amount?
David also reminds listeners to never invest so much into one company or security that you would be irreversibly harmed if it did turn out to be a Ponzi scheme. Diversify your portfolio and don’t take large risks with just one or two investment strategies. Most investments frauds can be avoided, however, simply by taking the time to research and ask the right questions. Be sure to listen the whole way through for more examples and insight on how to avoid investment fraud.
Episode Chronology
- [0:17] Personal stories surrounding fraudulent investment schemes.
- [2:38] The importance of authentic registration.
- [4:28] Who you are working with, and what are they promising?
- [6:34] Registered securities and registered investment companies.
- [8:41] Disclosing information properly when being compensated.
- [12:07] Deciphering performance claims.
- [16:37] Understanding what the fees are paying for.
- [18:37] Precautions to implement against fraud.
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