The late great Benjamin Franklin once said, “an investment in knowledge pays the best interest.” While he probably meant to say this about merely having a basic education, the quote can also apply when it comes to having enough knowledge to avoid investment scams.
Investment scams have been around probably for as long as there were ruthless individuals willing to pull the wool over the eyes of naive investors. And if there is money or some form of currency to be made, there will likely always be individuals trying to find ways of getting it – a lot of it – in fraudulent ways.
InvestmentNews seeks to provide some insight into investment scams. We’ll give answers to important questions like:
After reading, you should be able to spot investment scams from a mile away.
Why do investment scams even exist? Why do they persist? The motivations of scammers are almost universally financial in nature. In one way or another, scammers exist to separate their victims from whatever items of value they might have. These items can be:
Scammers have at least three common motivations for their actions:
The first-ever recorded investment scam can be traced back to ancient Greece. In 300 BC, a sea merchant named Hegestratos took out an insurance policy on his ship and its cargo.
Primitive Greek insurance worked by allowing merchants like Hegestratos to take out a loan on their yet-to-be-delivered merchandise. Merchants would agree to repay the loan with interest as soon as the cargo reached port and was sold. If the loan was unpaid, creditors would take possession of the merchant’s cargo and ship.
But in Hegestratos’s greed, he thought of taking out a loan on nonexistent cargo, then would claim afterwards that his ship sank while in transit. That way, he thought he could pocket the loan and avoid liability, since his ship “accidentally” sank.
His plan might have worked if only he hadn’t been caught sinking his ship, then drowning after trying to escape. That was the first recorded investment scam, but not the first successful one. Hegestratos got what he deserved, but his attempt gave other people ideas for many more investment scams.
Many types of investment scams are often a rehashing of scams from decades ago, and it helps to know what they are. Here are the most common investment scams:
In this scheme, scammers attempt to fool members of a group with a common characteristic. Scammers infiltrate groups, clubs, or organizations of a specific age, ethnicity, or religion. To win the group’s trust, scammers act like they have as much in common with them.
Once they’ve gained the group’s trust, they coax the group leader and its members to entrust their money in an investment scheme, then make off with the funds.
This is where scammers will make the lofty claim that investors will make high returns on any money invested with them. They'll make incredible claims that investors are guaranteed to make money off the investment. Oftentimes these investments don’t exist, or they’re really selling stocks that have almost no value.
Here, scammers buy cheap stocks and lie to potential investors about the quality of the stocks to raise their prices. Thanks to their exaggerated claims, investors are deceived into thinking the stocks are a good investment. The scammer then sells the stock at the higher price, but the stock price drops, leaving the buyer with worthless stocks.
The Ponzi scheme was named after its notorious creator, Charles Ponzi. In a modern Ponzi scheme, the scammer, often a portfolio manager, promises their victims huge payouts from their investments. In reality, victims are only receiving money paid by other investors fooled into the scheme. The scam naturally falls apart when the scammers can’t find any new investors to provide new money to use as “payouts” to the other investors.
In this scam, fraudsters will tell their victims that a small investment can give them a large profit or payout. The catch is that the victims will have to find others to “invest” as well. As in a Ponzi scheme, the “profit” is just the money invested by other victims.
The scheme collapses when the fraudster and their victims are unable to keep it going and can’t find other investors (victims) to put money in – or worse, the scammer takes the money and disappears.
In this scam, fraudsters will claim that they can help investors get back money lost in other investment schemes. The catch? They must be paid upfront. After investors pay for their “services”, they disappear.
Apart from the Ponzi scheme, pyramid schemes seem to persist. Shrewd scammers often repackage their pyramid schemes into what’s known as “multi-level marketing” businesses. These scams exploit legal loopholes to operate legitimately. This video details the evolution of pyramid scams:
There are several notable scams that made history due to their audacity, the scale of the scam, and the huge amount of money involved. Here are the top investment scams for the history books:
This scam is world-famous because many scammers replicate it with promises of high returns on investments. The Ponzi scheme was “invented” by Charles Ponzi, a villain who constantly broke the law. His scheme all started with a simple envelope. Ponzi had family in Italy, and they mailed him a letter that had a response certificate that covered the cost of return postage. Although this was perfectly legal, how he handled the profits was not.
Ponzi would have friends purchase these for cheap in another country, then redeem them for more expensive stamps in the US, which he sold and profited from. With this scheme, Ponzi promised investors a fifty percent return within ninety days. At first, he delivered the profits to his initial investors. His pioneering “investors” became very pleased with the results, so they encouraged others to invest.
8 biggest scam artists in history:
— Time Capsule Tales (@timecaptales) June 2, 2024
1. Charles Ponzi - The original Ponzi scheme, Charles was born in Italy in 1882 & immigrated to the United States in the early 1900s, where he embarked on a series of dubious ventures before devising his fraudulent scheme.
In the late 1910s,… pic.twitter.com/XnXU09gyti
Soon, Ponzi had more new investors who could pay for the previously hooked investors, and the cycle continued for a while. Ponzi swindled the equivalent of $200 million in today’s money before he was finally caught. After serving a lengthy jail sentence he was deported to Italy, then made his way to Rio de Janeiro where he died in 1949.
Victor Lustig was a proud con man, one who unabashedly wrote “the 10 commandments for Con Men”. One of his commandments was to “pay attention” - and pay attention he did to a news article about the Eiffel Tower needing repairs. Using this knowledge, Lustig made fake papers stating he had the authority to sell the Eiffel Tower for scrap.
With fake papers in hand, Lustig went to the richest French scrap metal dealers. He organized a “secret meeting” with them at a hotel in Paris, where the Eiffel Tower would be “auctioned” to the highest bidder. Thinking that they were dealing with a representative of the French government, the scrap metal dealers made huge bids, even to the amazement of Lustig himself.
Lustig made a secret deal with one of the investors, asking for a bribe to ensure he’d make the winning bid. The deceived investor agreed to pay him the winning bid of 1.2 million Francs (EUR4.2 million) along with his bribe. Lustig then hopped on a train to Austria.
What is fascinating about this scam is that Lustig did it twice. After years of other scams, he was eventually caught and imprisoned in Alcatraz, where he died of pneumonia. Like many con men, he worked under a fake identity. Lustig’s real name was Robert Miller.
The Ponzi scheme recently regained prominence due to the shenanigans of a very successful fraudster and portfolio manager – Bernard “Bernie” Madoff. Madoff made off (pun intended) with as much as $65 billion over several decades. Madoff ran his scam like a Ponzi scheme but told his earlier investors he used a real strategy, the “split-strike conversion” to manage their money.
Madoff was sentenced to 139 years in prison but died there in 2021. How he was able to keep up the scheme and get many people, including some of the biggest names in Hollywood, to invest in his scheme remains the stuff of legend.
One of the most recent investment frauds is the cryptocurrency scam that was run by Sam Bankman-Fried and friends. He and his pals set up a cryptocurrency exchange platform called FTX in 2019 which unraveled in 2022. FTX dealt mainly in cryptocurrency and promised higher returns despite the high-risk nature of this type of investment.
Many wealthy celebrities invested millions of dollars in FTX, most notably Seinfeld creator Larry David, NBA stars Stephen Curry and Shaquille O’ Neal, and NFL star Tom Brady.
Not wanting to miss an opportunity, firms like Sequioa, SoftBank, Paradigm, and Tiger Global made substantial investments as well. At its peak, FTX was worth more than Twitter or Nasdaq, reaching a value of $32 billion. But as soon as it was revealed that Bankman-Fried mismanaged the funds and unethically used them for another business, Alameda Research, FTX lost billions of investors’ money as easily as it made them.
Sam Bankman-Fried gets 25 years in prison for FTX fraud https://t.co/ZAQbQ5aCwF #InvestmentNews pic.twitter.com/tSiaU0njvn
— InvestmentNews (@investmentnews) March 28, 2024
For the fraud, Sam Bankman-Fried was sentenced to 25 years in prison, with the judge saying that “there is a risk that this man will be in a position to do something very bad in the future.” His co-conspirators were likewise sentenced.
Perhaps the only bright spot of this scandal is that the victims of the FTX scam could get repaid, with interest.
The telltale signs of scams include:
Those who engage in investment scams might get away with it and make off with a lot of money, but they eventually get caught. Investors and advisors should always heed the warning signs of these investment scams. Investors should conduct due diligence and remember the principles of investing.
The adage “if it’s too good to be true, it probably is” is the best protection. Avoid scams by having a healthy skepticism of investments, especially of those promising unrealistic returns and are heavily promoted on social media.
If you liked this guide on how to avoid investment scams, check out our other guides on how to invest wisely and make sound investment moves.
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