Investment scams prey on your hope to earn interest or a return on investment on the amount of money that you invest. The Securities and Exchange Commission (SEC) offers overviews of many common investment frauds, and tips to avoid being a victim.
If you are the victim of an investment fraud, you can file a complaint with the SEC or with your state’s securities administrator.
Types of Fraud
Investment fraud comes in many forms. Whether you are a first-time investor or have been investing for many years, here are some basic facts you should know about different types of fraud.
Affinity Fraud
Advance Fee Fraud
Binary Options Fraud
High Yield Investment Programs
Internet and Social Media Fraud
Microcap Fraud
Ponzi Scheme
Pre-IPO Investment Scams
Pyramid Schemes
“Prime Bank” Investments
Promissory Notes
Pump and Dump Schemes
Information on the following frauds is available on the Commodity Futures Trading Commission website at the links below.
Commodity Pool Fraud
Foreign Currency Trading Fraud
Precious Metals Fraud
Affinity Fraud
Affinity frauds target members of identifiable groups, such as the elderly, or religious or ethnic communities. The fraudsters involved in affinity scams often are – or pretend to be – members of the group. They may enlist respected leaders from the group to spread the word about the scheme, convincing them it is legitimate and worthwhile. Many times, those leaders become unwitting victims of the fraud they helped to promote.
These scams exploit the trust and friendship that exists in groups of people. Because of the tight-knit structure of many groups, outsiders may not know about the affinity scam. Victims may try to work things out within the group rather than notify authorities or pursue legal remedies.
Affinity scams often involve “Ponzi” or pyramid schemes where new investor money is used to pay earlier investors, making it appear as if the investment is successful and legitimate.
Advance Fee Fraud
Advance fee frauds ask investors to pay a fee up front – in advance of receiving any proceeds, money, stock, or warrants – in order for the deal to go through. The advance payment may be described as a fee, tax, commission, or incidental expense that will be repaid later. Some advance fee schemes target investors who already purchased underperforming securities and offer to sell those securities if an “advance fee” is paid, or target investors who have already lost money in investment schemes. Fraudsters often direct investors to wire advance fees to escrow agents or lawyers to give investors comfort and to lend an air of legitimacy to their schemes. Fraudsters also may try to fool investors with official-sounding websites and e-mail addresses.
Advance fee frauds may involve the sale of products or services, the offering of investments, lottery winnings, found money, or many other so-called opportunities. Fraudsters carrying out advance fee schemes may:
- Offer common financial instruments such as bank guarantees, old government or corporate bonds, medium or long term notes, stand-by letters of credit, blocked funds programs, “fresh cut” or “seasoned” paper, and proofs of funds;
- Offer to find financing arrangements for clients who pay a “finder’s fee” in advance; or
- Pose as legitimate U.S. brokers or firms and offer to help investors recover their stock market losses by exchanging worthless stock, but requiring investors to pay an upfront “security deposit” or post an “insurance” or “performance bond.”
Binary Options Fraud
Much of the binary options market operates through Internet-based trading platforms that are not necessarily complying with applicable U.S. regulatory requirements and may be engaging in illegal activity. Investors should be aware of fraudulent promotion schemes involving binary options and binary options trading platforms.
What is a Binary Option?
A binary option is a type of options contract in which the payout depends entirely on the outcome of a yes/no proposition and typically relates to whether the price of a particular asset will rise above or fall below a specified amount. Once the option is acquired, there is no further decision for the holder to make regarding the exercise of the binary option because binary options exercise automatically. Unlike other types of options, a binary option does not give the holder the right to buy or sell the specified asset. When the binary option expires, the option holder receives either a pre-determined amount of cash or nothing at all.
Investor Complaints Relating To Fraudulent Binary Options Trading Platforms
The SEC has received numerous complaints of fraud associated with websites that offer an opportunity to buy or trade binary options through Internet-based trading platforms. The complaints fall into at least three categories:
- Refusal to credit customer accounts or reimburse funds to customers
These complaints typically involve customers who have deposited money into their binary options trading account and who are then encouraged by “brokers” over the telephone to deposit additional funds into the customer account. When customers later attempt to withdraw their original deposit or the return they have been promised, the trading platforms allegedly cancel customers’ withdrawal requests, refuse to credit their accounts, or ignore their telephone calls and emails.
- Identity theft
These complaints allege that certain Internet-based binary options trading platforms may be collecting customer information (including copies of customers’ credit cards, passports, and driver’s licenses) for unspecified uses. Do not provide personal data.
- Manipulation of software to generate losing trades
These complaints allege that the Internet-based binary options trading platforms manipulate the trading software to distort binary options prices and payouts. For example, when a customer’s trade is “winning,” the countdown to expiration is extended arbitrarily until the trade becomes a loss.
Beware of Overstated Investment Returns for Binary Options
Additionally, some binary options Internet-based trading platforms may overstate the average return on investment by advertising a higher average return on investment than a customer should expect, given the payout structure.
For example, a customer may be asked to pay $50 for a binary option contract that promises a 50% return if the stock price of XYZ company is above $5 per share when the option expires. Assuming a 50/50 chance of winning, the payout structure has been designed in such a way that the expected return on investment is actually negative, resulting in a net loss to the customer. This is because the consequence if the option expires out of the money (approximately a 100% loss) significantly outweighs the payout if the option expires in the money (approximately a 50% gain). In this example, an investor could expect — on average — to lose money.
Always Check the Background of a Firm or Financial Professional
Before investing, check out the background, including registration or license status, of any firm or financial professional you are considering dealing with through the SEC’s Investment Adviser Public Disclosure (IAPD) database, available on Investor.gov, and the National Futures Association Background Affiliation Status Information Center’s BASIC Search. If you cannot verify that they are registered, don’t trade with them, don’t give them any money, and don’t share your personal information with them.
High Yield Investment Programs
The Internet is awash in so-called “high-yield investment programs” or “HYIPs.” These are unregistered investments typically run by unlicensed individuals – and they are often frauds. The hallmark of an HYIP scam is the promise of incredible returns at little or no risk to the investor. A HYIP website might promise annual (or even monthly, weekly, or daily!) returns of 30 or 40 percent – or more. Some of these scams may use the term “prime bank” program. If you are approached online to invest in one of these, you should exercise extreme caution – it is likely a fraud.
Internet and Social Media Fraud
Many investors use the Internet and social media to help them with investment decisions. While these online tools can provide many benefits for investors, these same tools can make attractive targets for criminals. Criminals are quick to adapt to new technologies – and the Internet is no exception.
The Internet is a useful way to reach a mass audience without spending a lot of time or money. A website, online message, or social media site can reach large numbers with minimum effort. It’s easy for fraudsters to make their messages look real and credible and sometimes hard for investors to tell the difference between fact and fiction. That’s why you should think twice before you invest your money in any opportunity you find online.
The key to avoiding investment fraud on social media sites or elsewhere on the Internet is to be an educated investor. To learn specific steps you can take, see What You Can Do to Avoid Investment Fraud. Below, we tell you where various types of fraud may show up online such as Social media, Online investment newsletters, Online bulletin boards and chat rooms and Spam.
Social media
Social media, such as Facebook, YouTube, Twitter, and LinkedIn, have become key tools for U.S. investors. Whether they are seeking research on particular stocks, background information on a broker-dealer or investment adviser, guidance on an overall investment strategy, up to date news or to simply want to discuss the markets with others, investors turn to social media. Social media also offers a number of features that criminals may find attractive. Fraudsters can use social media in their efforts to appear legitimate, to hide behind anonymity, and to reach many people at low cost.
Always be wary of unsolicited offers to invest. Unsolicited sales pitches may be part of a fraudulent investment scheme. If you receive an unsolicited message from someone you don’t know containing a “can’t miss” investment, your best move maybe to pass up the “opportunity” and report it to the SEC Complaint Center.
Online investment newsletters
While legitimate online newsletters contain valuable information, others are tools for fraud. Some companies pay online newsletters to “tout” or recommend their stocks. Touting isn’t illegal as long as the newsletters disclose who paid them, how much they’re getting paid, and the form of the payment, usually cash or stock. But fraudsters often lie about the payments they receive and their track records.
Fraudulent promoters may claim to offer independent, unbiased recommendations in newsletters when they stand to profit from convincing others to buy or sell certain stocks. They may spread false information to promote worthless stocks.
The fact that these so-called “newsletters” may be advertised on legitimate websites, including on the online financial pages of news organizations, does not mean that they are not fraudulent. To learn more, read our tips for checking out newsletters.
Online bulletin boards and chat rooms
Online bulletin boards, chat rooms and social media sites are a way for investors to share information. While some messages may be true, many turn out to be bogus – or even scams. Fraudsters may use online discussions to pump up a company or pretend to reveal “inside” information about upcoming announcements, new products, or lucrative contracts.
You never know for certain who you’re dealing with, or whether they’re credible, because many sites allow users to hide their identity behind multiple aliases. People claiming to be unbiased observers may actually be insiders, large shareholders, or paid promoters. One person can easily create the illusion of widespread interest in a small, thinly traded stock by posting numerous messages under various aliases.
Other online offerings may not be fraudulent per se, but may nonetheless fail to comply with the applicable registration provisions of the federal securities laws. While the federal securities laws require the registration of solicitations or “offerings,” some offerings are exempt. Always determine if a securities offering is registered with the SEC or a state, or is otherwise exempt from registration, before investing.
Spam
“Spam” – junk e-mail – often is used to promote bogus investment schemes or to spread false information about a company. With a bulk e-mail program, spammers can send personalized messages to millions of people at once for much less than the cost of cold calling or traditional mail. Many scams, including advance fee frauds, use spam to reach potential victims.
Many of the frauds that show up on social media are not unique to the Internet. These frauds range from “pump and dump” schemes to promises of “guaranteed returns,” from “High Yield Investment Programs” to affinity fraud.
Microcap Fraud
If you are considering investing in a company based on an unsolicited stock promotion, be cautious. The promotion may be from a paid promoter or company insider who stands to profit at your expense from selling shares after creating a buying frenzy and pumping up the stock price as part of a pump and dump scheme.
What are microcap stocks and why are they more susceptible to stock price manipulation?
Publicly-available information about microcap stocks (low-priced stocks issued by the smallest of companies), including penny stocks (the very lowest priced stocks), often is scarce. This makes it easier for fraudsters to spread false information. In addition, it is often easier for fraudsters to manipulate the price of microcap stocks because microcap stocks historically have been less liquid than the stock of larger companies.
What are some warning signs of microcap fraud?
- Unsolicited stock recommendation or heavy stock promotion
- Be wary if the company’s stock seems to be more heavily promoted than its products or services.
- No real business operations
- Penny stocks that are aggressively promoted may be stocks of dormant shell companies.
- Unexplained increase in stock price or trading volume
- Some microcap stocks are quoted on “over-the-counter” (OTC) systems (e.g., OTC Bulletin Board and OTC Markets).
- SEC trading suspension
- Click here to find out whether the SEC has recently suspended trading of the company’s stock.
- Frequent changes in company name or type of business
- Frequent changes in company name or business plan may suggest no real business operations.
Where can I get information about a microcap company?
Read recent reports that the company has filed with the SEC. Note that fraudsters often attempt to take advantage of the news as a hook for investment schemes touting “the latest growth industry.” For example, they may promote companies that claim to be developing products or services relating to marijuana, Ebola, or Zika.
What If I received the stock promotion through a legitimate source?
Fraudsters may promote a stock in seemingly independent and unbiased sources including social media, investment research websites, investment newsletters, online advertisements, email, Internet chat rooms, direct mail, newspapers, magazines, and radio.
What if the promoter discloses receiving compensation to promote the stock?
Even if a promoter makes specific disclosures about being compensated for promoting a stock, be aware that fraudsters may make such disclosures to create the false appearance that the promotion is legitimate. Additionally, the disclosures may not reveal that the underlying source of the compensation is a company insider or affiliate.
Watch this FBI Financial Fraud Public Service Announcement video featuring actor Michael Douglas:
Ponzi Scheme
A Ponzi scheme is an investment fraud that pays existing investors with funds collected from new investors. Ponzi scheme organizers often promise to invest your money and generate high returns with little or no risk. But in many Ponzi schemes, the fraudsters do not invest the money. Instead, they use it to pay those who invested earlier and may keep some for themselves.
With little or no legitimate earnings, Ponzi schemes require a constant flow of new money to survive. When it becomes hard to recruit new investors, or when large numbers of existing investors cash out, these schemes tend to collapse.
Ponzi schemes are named after Charles Ponzi, who duped investors in the 1920s with a postage stamp speculation scheme.
Ponzi scheme “red flags”
Many Ponzi schemes share common characteristics. Look for these warning signs:
- High returns with little or no risk. Every investment carries some degree of risk, and investments yielding higher returns typically involve more risk. Be highly suspicious of any “guaranteed” investment opportunity.
- Overly consistent returns. Investments tend to go up and down over time. Be skeptical about an investment that regularly generates positive returns regardless of overall market conditions.
- Unregistered investments. Ponzi schemes typically involve investments that are not registered with the SEC or with state regulators. Registration is important because it provides investors with access to information about the company’s management, products, services, and finances.
- Unlicensed sellers. Federal and state securities laws require investment professionals and firms to be licensed or registered. Most Ponzi schemes involve unlicensed individuals or unregistered firms.
- Secretive, complex strategies. Avoid investments if you don’t understand them or can’t get complete information about them.
- Issues with paperwork. Account statement errors may be a sign that funds are not being invested as promised.
- Difficulty receiving payments. Be suspicious if you don’t receive a payment or have difficulty cashing out. Ponzi scheme promoters sometimes try to prevent participants from cashing out by offering even higher returns for staying put.
Pre-IPO Investment Scams
The SEC’s Office of Investor Education and Advocacy has issued an updated Investor Alert to warn investors about investment scams that purport to offer investors the opportunity to buy pre-IPO shares of companies, including social media and technology companies such as Facebook and Twitter. SEC staff is aware of a number of complaints and inquiries about these types of frauds, which may be promoted on social media and internet sites, by telephone, email, in person, or by other means.
The SEC’s Office of Investor Education and Advocacy is issuing this updated Investor Alert to warn investors about investment scams that purport to offer investors the opportunity to buy pre-IPO shares of companies, including social media and technology companies such as Facebook and Twitter. SEC staff is aware of a number of complaints and inquiries about these types of frauds, which may be promoted on social media and internet sites, by telephone, email, in person, or by other means.
The Commission’s Division of Enforcement continues to take action in this area. On April 4, 2012, the U.S. District Court for the Southern District of Florida in Miami issued an Order to Show Cause and Other Emergency Relief to halt a defendant’s fraudulent sale of securities of an investment vehicle that he falsely represented owned pre-IPO shares of Facebook, Inc. In that matter, the Commission’s motion for an order to show cause alleges that Allen Weintraub, using entities with names such as “Private Stock Transfer, Inc.”, “PST Investments III, Inc.”, and “World Financial Solutions” falsely represented that he would sell the investors pre-IPO shares of Facebook, Inc., and that PST Investments had an ownership interest in Facebook stock. The Commission’s motion also alleges that Weintraub utilized the website privatestocktransfer.com to perpetrate his scheme. The Division of Enforcement urges anyone who believes that Allen Weintraub may have recently defrauded them to contact John Rossetti, Senior Counsel, at 202-551-4819.
In another matter in September 2010, a judgment order was entered in favor of the SEC based on allegations that a scam artist had misappropriated more than $3.7 million from 45 investors in four states by offering fake pre-IPO shares of companies, including AOL/Time Warner, Inc., Google, Inc., and Rosetta Stone, Inc. before the companies went public.
While legitimate offerings of pre-IPO shares in a company are not uncommon, unregistered offerings may violate federal securities laws unless they meet a registration exemption, such as restricting the private offering to “accredited investors” — investors who meet certain income or net worth requirements. Investors should be mindful of the risks involved with an offer to purchase pre-IPO shares in a company. As with any investment, we encourage investors to research thoroughly both the investment product and the professional offering the product before making any investment decision.
Pyramid Schemes
In the classic “pyramid” scheme, participants attempt to make money solely by recruiting new participants, usually where:
- The promoter promises a high return in a short period of time;
- No genuine product or service is actually sold; and
- The primary emphasis is on recruiting new participants.
All pyramid schemes eventually collapse, and most investors lose their money.
Fraudsters frequently promote pyramid schemes through social media, Internet advertising, company websites, group presentations, conference calls, YouTube videos, and other means. Pyramid scheme promoters may go to great lengths to make the program look like a business, such as a legitimate multi-level marketing (MLM) program. But the fraudsters use money paid by new recruits to pay off earlier stage investors (usually recruits as well). At some point, the schemes get too big, the promoter cannot raise enough money from new investors to pay earlier investors, and people lose their money.
These are some of the hallmarks of a pyramid scheme:
- Emphasis on recruiting. If a program focuses solely on recruiting others to join the program for a fee, it is likely a pyramid scheme. Be skeptical if you will receive more compensation for recruiting others than for product sales.
- No genuine product or service is sold. Exercise caution if what is being sold as part of the business is hard to value, like so-called “tech” services or products such as mass-licensed e-books or online advertising on little-used websites. Some fraudsters choose fancy-sounding “products” to make it harder to prove the company is a bogus pyramid scheme.
- Promises of high returns in a short time period. Be skeptical of promises of fast cash – it could mean that commissions are being paid out of money from new recruits rather than revenue generated by product sales.
- Easy money or passive income. There is no such thing as a free lunch. If you are offered compensation in exchange for doing little work such as making payments, recruiting others, or placing online advertisements on obscure websites, you may be part of an illegal pyramid scheme.
- No demonstrated revenue from retail sales. Ask to see documents, such as financial statements audited by a certified public accountant (CPA), showing that the company generates revenue from selling its products or services to people outside the program. As a general rule, legitimate MLM companies derive revenue primarily from selling products, not from recruiting members.
- Complex commission structure. Be concerned unless commissions are based on products or services that you or your recruits sell to people outside the program. If you do not understand how you will be compensated, be cautious.
All Pyramid Schemes Collapse
When fraudsters attempt to make money solely by recruiting new participants into a program, that is a pyramid scheme, and there is only one possible mathematical result – collapse. Imagine if one participant must find six other participants, who, in turn, must find six new recruits each. In only 11 layers of the “downline,” you would need more participants than the entire population of the United States to maintain the scheme. This infographic shows how all pyramid schemes are destined to collapse.
“Prime Bank” Investments
If someone approaches you about investing in a so-called “Prime Bank” program, “Prime World Bank” financial instrument, or similar high-yield security, you should know that these investments do not exist. They are all scams.
Prime Bank programs often claim investors’ funds will be used to buy and trade “Prime Bank” instruments. Promoters make the schemes seem legitimate, using complex, sophisticated and official-sounding terms. The investment may be described as debentures, standby letters of credit, bank guarantees, an offshore trading program, a high-yield investment program, or some variation.
To reassure investors, promoters may claim that the instrument is issued, traded, or guaranteed by a well-known organization such as the World Bank, the International Monetary Fund(IMF), a central bank, such as the U.S. Federal Reserve, or the International Chamber of Commerce (ICC).
Secrecy is another tip-off. Prime Bank scheme promoters frequently claim that investment opportunities of this type are by invitation only and limited to select, wealthy customers. They cite secrecy if potential investors ask for references, and sometimes ask investors to sign non-disclosure agreements.
Some promoters are audacious enough to advertise in national newspapers. They may avoid using the term “Prime Bank note,” and tell prospective investors that their programs do not involve Prime Bank instruments. Regardless of what they’re called, the basic pitch remains the same, and investors should remain vigilant against offers to invest in high-yield, risk-free international finance programs.
The SEC’s Office of Investor Education and Advocacy (OIEA) is issuing this Investor Alert to warn investors about fraudulent investment schemes involving purportedly high-yield, risk-free international finance programs.
All “prime bank” investment programs are fraudulent. Promoters of prime bank programs often claim that investors’ funds will be used to buy and trade supposed prime bank instruments, and that investors will receive guaranteed, high investment returns with little or no risk. Promoters try to make the schemes sound legitimate by using complex, sophisticated, and official-sounding terms. These may include: debenture, standby letter of credit, bank guarantee, prime world bank financial instrument, private funding project, offshore trade or trading program, trading platform, trading facility, trade slot, high-yield trading or roll program, guaranteed bank note, or some variation.
Keep in mind that the terms used to promote these schemes are just one aspect to scrutinize – in fact, some promoters may avoid using the term “prime bank” entirely. To better protect yourself, be on the lookout for these red flags of prime bank fraud:
- If someone approaches you about investing in a prime bank program, prime world bank financial instrument, or similar high-yield security, it is a scam. These investments do not exist. Promoters may tell investors that they will receive a return of their principal after a few days or weeks and continue to receive their guaranteed return.
- Promoters may falsely claim that the instrument is issued, traded, or guaranteed by a well-known organization such as the World Bank, the International Monetary Fund (IMF), a central bank (such as the U.S. Federal Reserve), or the International Chamber of Commerce (ICC). They also may misrepresent that the instrument is issued, traded, or guaranteed by an international or private bank or trust located abroad.
- Promoters may claim that investment opportunities are by invitation only and limited to select, wealthy customers. Often promoters will say or imply that these types of investments are the exclusive, “secret way” that wealthy people make all their money. They cite secrecy if potential investors ask for references, and sometimes ask investors to sign non-disclosure agreements.
- Promoters may hire escrow agents or use escrow accounts to receive and disburse investor money. Promoters may falsely claim that investor funds will be kept safe and protected from loss in an escrow or trust account.
- Promoters may advertise using national newspapers, social media, or classified advertisement websites, and they may avoid using the term “prime bank.” They may explicitly deny that their programs involve prime bank instruments. Regardless, investors should be wary of any offer to invest in a high-yield, risk-free international finance program.
Do not invest your money with unlicensed or unregistered sellers. Many fraudulent investment schemes involve persons who are not licensed or registered as investment advisers or broker dealers. Even if you personally know the person recommending or selling an investment, check whether he or she is licensed or registered and, if so, whether he or she has any disciplinary history. Use the SEC’s Investment Adviser Public Disclosure (IAPD) website and the Financial Industry Regulatory Authority (FINRA)’s BrokerCheck website, and contact your state securities regulator.
The SEC has initiated enforcement actions against prime bank promoters. In In the Matter of Spectrum Concepts, LLC, Donald James Worswick, Michael Nicholas Grosso, and Michael Patrick Brown, a Florida company, its president, and two other individuals were charged for allegedly operating a prime bank scheme, offering what they called “Private Joint Venture Credit Enhancement Agreements.” The respondents allegedly told investors that their money would be placed in “private funding projects” and used to “set up” a “credit facility” and a “trade slot” that would then be “blocked” for the benefit of a supposed “trade platform.” The respondents also allegedly promised investors that they would earn returns ranging from 900% in 20 days to 4,627% annually. In an effort to make the offering seem legitimate, the respondents allegedly used an “escrow agent” to receive investor funds even though the supposed investments did not exist and investor funds were used for other purposes.
In SEC v Butts, et al., the SEC charged numerous individuals and entities for allegedly conducting a prime bank scheme. Defendants allegedly told investors that an initial investment of $60,000-$90,000 would be used to purchase Standby Letters of Credit that would be invested in a trading program yielding an immediate return of more than $8 million within 15 to 45 business days, to be followed by earnings of approximately 14% per week. Defendants allegedly assured investors that an attorney would hold the investors’ funds in escrow until the bank instruments were obtained. According to the SEC’s complaint, investors were lured through the Internet, telephone, and personal contact with promises of extraordinary profits. The SEC alleges that the purported international trading program did not exist and that the defendants used the investors’ money to pay their own personal expenses such as travel and gambling.
If you are approached to invest in a prime bank program, be aware that it is an investment scheme and report it to the SEC.
Promissory Notes
Promissory notes are a form of debt that companies sometimes use to raise money. They typically involve investors loaning money to a company in exchange for a fixed amount of periodic income. Although promissory notes can be appropriate investments for many individuals, some fraudsters use promissory notes to defraud investors, especially the elderly.
For tips on how to avoid promissory note scams, read Broken Promises: Promissory Note Fraud. For more information, the Financial Industry Regulatory Authority (FINRA) website has an alert on Promissory Notes Can Be Less Than Promised.
Pump and Dump Schemes
“Pump and dump” schemes have two parts. In the first, promoters try to boost the price of a stock with false or misleading statements about the company. Once the stock price has been pumped up, fraudsters move on to the second part, where they seek to profit by selling their own holdings of the stock, dumping shares into the market.
These schemes often occur on the Internet where it is common to see messages urging readers to buy a stock quickly. Often, the promoters will claim to have “inside” information about a development that will be positive for the stock. After these fraudsters dump their shares and stop hyping the stock, the price typically falls, and investors lose their money.
