8 Investment Scams To Watch Out For

By Mark Di Vincenzo. May 7th 2016

The severe recession is in our rearview mirror, but the stock markets are up and down and throughout much of the country unemployment is high, gas prices are rising and the housing market is in a rut.

Scammers, who know many people these days are vulnerable to too-good-to-be-true pitches, are licking their lips. There are scams related to cars, lotteries and real estate, but investment scams are the ones that have the potential to hurt you the most and make scammers rich. How rich? The folks who track these things say scammers cheat investors out of about $40 billion a year.

Here are the most common investment scams according to the FBI and the North American Securities Administrators Association.

1. Ponzi Schemes

Thanks to Bernie Madoff, the Ponzi scheme has become a household name. It promises investors high returns and it delivers on these promises by using money from investors to pay “dividends” to others. The scheme -- named for Boston swindler Charles Ponzi, who conned $10 million from investors by promising 40 percent returns in the early 1900s – can’t work unless the scammer continues to find new investors whose money is used to pay other investors. The scheme dissolves when the scammer takes off with lots of money or when he can’t find enough new investors.

2. Pyramid Schemes

Like the Ponzi scheme, the money the scammer receives from new investors goes to pay other investors, but pyramid schemes pay unknowing investors commissions to recruit other investors/victims. These schemes typically offer a distributorship or franchise to market a particular product. The big money is made by the sale of the distributorships, not on the sale of the product. At some point, the supply of potential investors is exhausted and the pyramid collapses with some investors receiving enough commissions to recoup their initial investment and others losing their money.

3. Pump And Dump Fraud

This scheme gives investors the impression that a penny stock or some other equity is a can’t-miss investment. The high trading volume, which occurs for no good reason, raises the price of the stock (the pump). The scammers who pumped up the stock then start selling it at the inflated prices which innocent investors are paying (the dump). These days foreign-based computer criminals take advantage of American investors in modern-day pump and dump schemes. (To learn more about investing in penny stocks, see What You Need To Know About Investing In Penny Stocks.)

4. Mirror Trading Schemes

Some scammers tell you that the investments they’re selling mirror ones made by very wealthy investors, such as Warren Buffett. They promise an “automated trading platform” that instantly duplicates market transactions from these wealthy investors causing investors stop paying attention to their trades, which rarely make investors any money.

5. Promissory Notes

These are short-term debt investments often sold by independent insurance agents and issued by little-known or nonexistent companies. They promise unrealistic returns of as much as 15 percent a month with little or no risk. But unregistered promissory notes are often covers for Ponzi schemes and other scams. State regulators can tell you whether a promissory note and its sponsors are properly registered.

6. Prime Bank Note Fraud

Like other scams, this one promises high returns quickly. In one type of prime bank fraud, the scammers claim to have access to “prime bank guarantees” that they can buy low and sell high and they offer investors to join them buying low and selling high to others. Sometimes prime bank scammers promise access to the "secret" investments used by European banking families or Saudi royalty. Investors often are required to sign documents required by the International Chamber of Commerce even though ICC and the Federal Reserve have warned investors that no such investments exist. The victims of this fraud often end up sending money to a foreign bank, which then goes to an off-shore account, where it disappears.

7. Affinity Fraud

This scam takes advantage of the tendency of people to trust others who seem just like them. Scammers gain the investors’ trust by pointing out that they share the same religion or ethnicity, and before you know it, the victims are investing or “gifting” money and losing their life savings.

8. Letter Of Credit Fraud

Legitimate letters of credit are never sold as investments. Banks issue them to ensure payment for goods shipped in connection with international trade and they require documentation certifying that the goods have been shipped. Letter of credit frauds use false documentation when, in fact, no goods were shipped. Other letter of credit frauds involve scammers offering a “letter of credit” as an investment in which the investor is promised interest rates of as much as 300 percent a year. These investment “opportunities” do not exist.

So how do you avoid these investment-related scams? Keep in mind that if investments seem too good to be true, they probably are. Don’t invest in any deal that you don’t understand. Always exercise due diligence. And ask a smart person who you trust for some advice.

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