Identifying and Avoiding Investment Scams
You’ve worked hard to build your nest egg, and you want to make sure it lasts as long as you do. What’s more, you understand that making your money last means keeping it growing well into your retirement.
Occasionally, you’ll run into what seem to be opportunities for outstanding investments—chances to make a lot of money quickly, to cash in on “guaranteed” returns, or to “get in on the ground floor of the next big thing.” These offers are becoming more and more common as the richest generation of Americans reaches retirement.
Such “opportunities” may be tempting, but they frequently are not all they seem to be. The saying “If it sounds too good to be true, it probably is” may be a cliché, but it’s one that bears remembering.
Here’s a look at common investment scams and the keys to recognizing and avoiding them:
• Pyramid scheme. Also known as franchise-fraud or chain-referral schemes, these scams promise tremendous returns as long as participants recruit other new investors. They often cast themselves as franchise or distribution operations and frequently tout the benefit of allowing one to work from home.
The key to identifying such a scam is to ask where the real money comes from. If the main revenue generator comes from signing up other distributors rather than from actually selling a product or service, it’s a pyramid scheme. Many so-called multilevel marketing operations are actually pyramid schemes in disguise, so eye them with suspicion.
Over the long haul, pyramid schemes are mathematically doomed to failure. Worse, the scheme will contain the overwhelming majority of participants at the very moment it collapses. For that reason participating knowingly in a pyramid scheme isn’t just bad business—it’s morally and ethically wrong.
• Ponzi scheme. Technically a type of pyramid scheme, a Ponzi scheme promises outsized returns to a small group of investors, then recruits a second set and uses some of their money to pay profits to the first group (often without informing the original investors about the source of their “return”). The original investors, delighted with their success, tout it to another group, and so on. Eventually, this scheme breaks down and the scammer usually disappears.
• Pump and dump. In this scam, a small group buys up a stock, usually of a small company. The group then pushes it to a larger group of people, typically by misrepresenting the actual condition of the firm or its prospects. If the scammers “pump” the stock hard enough, the stock price might rise quickly, allowing the lawbreakers to sell their shares at the peak. That selling pushes down the shares, which typically go into free fall when other investors discover their mistake.
• Affinity scams. This name describes the scams’ methods more than their structure. They prey on members of a group and are often perpetrated by people who are, or pretend to be, part of the group. Often, the scammers will target a religious or ethnic group, earn the trust of its leaders, and then carry out a pyramid scheme or other con. The moral: Don’t trust someone’s investment advice just because you have things in common.
• Investment mismanagement. Unscrupulous brokers and agents cut corners, charge excessive fees without explanation, or make unauthorized trades. Some of these ne’er-do-wells are recruited by scammers with the promise of big returns. Before investing with anyone new, make sure he or she is properly accredited and fully discloses fees and trading policies.
• Variable annuity scam. The right variable annuities can be appropriate for certain investors. But crooked agents increasingly sell seniors hugely expensive annuities with a plethora of hidden fees, often pitching them at “free” investment seminars. Bear in mind that variable annuities are generally a bad idea for investors who may want to draw on the money within the next decade or so. Only purchase variable annuities issued by reputable, well-known providers, and research them carefully. (The Fidelity Independent Adviser’s VIP Portfolios provide guidance for investors with Fidelity annuities.)
• E-mail and Internet fraud. Phony investment firms for years have enticed victims through telemarketing or official-looking mail campaigns. But they’re using the Web more and more, often seeking investors through bulletin boards, newsletters, or spam.
Some pitches are so outlandish that they’re easy to dismiss with a chuckle and label as “junk” (we’ve all received pleading e-mails from Nigerian princes who need our help reclaiming their fortunes). Many e-schemes are more sophisticated, however. They may seek personal information (a strategy known as “phishing”), which they’ll use to steal your identity and ring up enormous debts. Alternatively, they might offer to send you a large check as long as you promise to wire back only a portion of it (you find out the check is bogus only after you’ve wired the money).
Those are just a few of the most common schemes to be aware of. Generally speaking, they can be avoided by following a fairly simple set of rules:
1. Don’t trust anyone you don’t know, especially if the person is making unsolicited offers. Be especially skeptical of offers from foreign countries, which can be harder for law enforcement to trace.
2. Don’t provide such personal information as Social Security numbers or account numbers.
3. Never wire money to or cash checks from people you don’t know.
4. Beware of high-pressure sales pitches and demands for immediate decisions, as well as aggressive or bullying responses if you raise doubts.
5. Watch out for key phrases like “guaranteed profits;” “no risk”; “Don’t tell anyone else about this; or “Act now, because only a few lucky investors can get in before the deadline.”
6. Expensive “training” sessions or materials should raise a red flag.
7. When presented with an opportunity, make sure you understand the offer and know the company behind it. Request written information about any investment you’re considering, and take the time to read it.
8. Find out what state or federal agency regulates the firm, and check with those agencies to see if the offering party is properly licensed and legitimate.
In the end, it comes to the “too good to be true” rule. The relationship between investment risk and reward is one of the few sure things in life: The potential for high returns almost invariably comes with a high level of risk. Fortunately, a well-diversified portfolio of securities built for your individual circumstances can help you navigate some investment risk while generating the growth you need to make your money last throughout retirement. More important, it’s risk you can measure historically and manage with a higher likelihood of success.
