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How to Identify Red Flags in Investment Schemes

As an investigative reporter, the easiest financial crime for me to detect is a Ponzi scheme. Any investment scheme with a performance chart that is essentially a diagonal line trending upwards with little or no meaningful variation over many months is a Ponzi scheme and, as such, doomed to failure.

The level of returns do not meaningfully fluctuate because they are not related to profits or losses from any underlying business activity, as is the case with legitimate enterprises, but are paid from new money coming into the scheme. When the level of new investments inevitably drops below the amount needed to meet redemptions, operating costs, and pay-outs to insiders, it collapses.

When conducting due diligence, it doesn’t matter who is behind such a scheme. The names and professional backgrounds of management and directors are irrelevant and it is of no consequence if they don’t show up in your KYC database(s). A diagonal line equals fraud, end of story.

Not far behind on my easy-to-detect list is the pump-and-dump securities scam. Tell-tale signs include related-party transactions and offshore companies as significant shareholders. The former is a means for insiders to divvy-up money raised from investors under the guise of fees, expenses and spurious business arrangements. The latter is a means for insiders to secretly profit by selling shares to unsuspecting investors on the open market while the share price rises based on fraudulent press releases. For penny stocks, you’d do well to remember this equation: Offshore Shareholders + Related Party Transactions = Fraud. Not some of the time or most of the time but 100% of the time.

Ponzi schemes should take a discerning person seconds to detect, pump-and-dumps a few minutes. It really is that simple. Notwithstanding this, these two types of schemes combined probably account for more losses to victims around the world than any other type of financial crime, losses that are likely to be in the billions of dollars annually.

When evaluating the credibility of an investment product, it is important to understand that, even in good-faith schemes, anyone who solicits money from third-parties does not know whether an investment will grow, shrink or disappear. If they had a sure thing, they would put their own money into it and not solicit funds from others. All projected and simulated returns are worthless and their inclusion on marketing material is a red flag. The only honest sales pitch is: Your investment might go up or down and I’ll do my best to achieve the former. Anyone claiming otherwise is, by definition, lying or incompetent.

Other red flags include high commission payments for money-raisers (the higher the commission, the dodgier a scheme is likely to be), complicated structures that, on their face, make little or no commercial sense, conflicts of interest within organizations (seldom resolved in favour of investors), and claims of low risk/high returns. All of these are strong indicators of fraud.

More subtle red flags can be found in the names of companies. For example, be wary of any company that has in its name the name of a country or jurisdiction with which it has no link, such as a British Virgin Islands entity called ‘Boston Life’ or one in the Bahamas called ‘Banakor Swisse’. Such names are inherently deceitful and, therefore, should be treated with suspicion. In a similar vein, any company raising money from investors that is named after its principal is a red flag because it indicates the principal has a big ego and egotists tend to put themselves before everyone else – a particularly dangerous scenario in the context of managing other people’s money.

When it comes to conducting due diligence on investment schemes, more emphasis should be placed on how a scheme is structured and presented to investors than the backgrounds of the people involved in its operation and oversight.

Do not make the mistake of relying too heavily on KYC databases to determine whether a scheme is legitimate or not. Many reprobates do not have any criminal, regulatory or professional disciplinary actions against them for no other reason than the mechanisms for holding people accountable for their actions are generally ineffective. This is particularly true for the United Kingdom and its Overseas Territories and Crown Dependencies, where perpetrators of illegal activity are seldom held accountable for their actions, due to corruption, incompetence and lack-of interest on the part of the enforcers.

In a similar vein, an absence of negative press about an individual might have more to do with Britain’s miscreant-friendly libel laws deterring publication of negative information than the person never having been involved in wrongdoing. As someone who has spent nearly $600,000 successfully defending libel actions in multiple countries, I can painfully attest to this!


I and Neal Levin of Freeborn & Peters will explore this topic in-depth at OffshoreAlert’s Financial Intelligence & Investigations Conference in London. Delegates will find out what to look for when scrutinizing international financial deals and those who are behind them, including how to detect intangible red flags and disturbing personal and psychological traits of potential business partners. Often compared to Mr. Wolf from Pulp Fiction, Mr. Levin – a fraud specialist – is most notably summoned when the case ‘stinks’. The OffshoreAlert Conference London will take place at The Bloomsbury Hotel, in London, on November 14-15, 2013. For more information, click here for the program, or here to register. 


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