A Ponzi scheme is a fraud that occurs in investments set up to dupe unsuspecting investors (Zuckoff, 2005, p.24). This illegal investment scheme began with Charles Ponzi in 1920 and was named after him. The fraudsters promise investors that they invest their money in high income-generating investments. Fraudsters also claim that the opportunities they invest in are of little or no risk at all. It involves paying returns to investors with their own investment money or with money from other investors. This is contrary to the normal way of paying returns with profits accrued from an investment (Zuckoff, 2005, p.28). Ponzi schemes attract new investors by offering enticing incentives. They promise returns that are either very high or inconsistent with investment terms. These schemes require a constant flow of money to keep the scheme running. Therefore, they try hard to recruit new investors every day to use the money to pay existing investors. These schemes disintegrate in the end because returns paid to investors exceed earnings. Most of these schemes deal in suspicious securities and are a constant source of suspicion from authorities (U.S.Securities and Exchange Commission, 2010).
Ponzi schemes collapse after a certain period. This happens when new investors fail to join or some of the existing investors opt out of the scheme and as a result demand their investment money. They collapse from lack of money to pay existing investors since they do not invest the money in any legitimate investment. Governments deal with many cases of Ponzi schemes each year (U.S.Securities and Exchange Commission, 2010). They prosecute the fraudsters and try to recover investors’ money and assets. They also try to prevent other investors from joining the schemes and losing their money. In most cases, governments prosecute fraudsters and freeze their investments and assets to avoid any further fraud.
All Ponzi schemes possess characteristics that are typical of fraud. They guarantee high investment returns from little or no-risk investments. This is suspicious because high return investments usually involve high risk. They also give consistent returns on investments (U.S.Securities and Exchange Commission, 2010). Since markets are dynamic, it is not possible to give investors consistent returns all the time and this is a sure sign of fraud. All Ponzi schemes involve unregistered investments. This means that investors have no access to the organization’s information about their investments, management, finances, and other services. All investment firms are required to register their investments. On the contrary, Ponzi schemes are unregistered and individuals who run them are unlicensed (U.S.Securities and Exchange Commission, 2010). Avoiding complex investments that are hard to understand as an investor is important. Ponzi schemes involve complex investments and operations that are hard to understand.
Investors should ask themselves several questions before joining any investment firm. Is the firm a legal investor? Is information about them available? Are their operations legal? Do I fully understand the investment? Are the returns realistic? (Peck, 2010, p.76) They take advantage of the fact that the investors lack knowledge of the operations of the scheme. This is why it is important to carry out some research on investment before investing (Peck, 2010, p.79). Ponzi schemes should be barred from operating because they dupe unsuspecting investors of their money. They are both illegal and unethical. No investments give consistent returns that are high considering the volatility and dynamics of markets. Investors should be on the watch for such investments that are just frauds by mean individuals promising to make them rich fast.
References
Peck, S. (2010).Investment Ethics. New York: John Wiley and Sons.
U.S.Securities and Exchange Commission. (2010). Ponzi Schemes: Frequently Asked Questions. Web.
Zuckoff, M. (2005). Ponzi’s Scheme: the True Story of a Financial Legend. New York: Random House.