How to Fall Victim to Investment Fraud 

/

While we may think it is a safe bet to invest with large financial institutions, it’s important to remember that Bernie Madoff sold to individual investors and to large financial institutions. There's no safe haven in investment fraud, and it will take victims wherever it can as long as there is money to be made. 

Alternative Reg D investments are the perfect storm for investment fraud. These investment options have fewer guardrails and lower requirements for accredited investors. And the accreditation standards rely on how much money the investors have, making this type of fraud perfect for the rich and not-necessarily famous.  

Some of the many high-profile fraud cases we often refer to were committed by great storytellers who made us trust them completely whether because of their ability to appeal to our human desire for high returns with little-to-no risk, or because we deemed the messenger a trustworthy friend, family member or pillar of the community. Intelligent and educated people continue to make unintelligent and uneducated investment decisions, but how? In her presentation to attendees at the 33rd Annual ACFE Global Fraud Conference, Sarah Lewis, CFE, dissects the anatomy of investment fraud to help us understand what — and who — is leading people to make these poor investments. 

Facts Are Stubborn Things

Investment fraudsters rely on people’s laziness to capture their ill-gotten gains. While we may not think we’re being lazy in our financial choices, we often make simple mistakes and fail —if not completely forego — properly vetting investments.  

Here are some of the ways fraudsters are able to pull the wool over eager investors’ heads: 

  • We often rely on our community for information, whether the information comes from our loved ones, co-workers or role models, but we can not trust others to do due diligence for us. 

  • We are overconfident in our decision-making skills and experiences. Fraud is always something that happens to other people — until it happens to you. Letting your guard down can mean significant financial losses. 

  • We are biased toward optimism. We want to support those who share our values and have a passion for their cause; however, a just cause does not necessarily translate to a sound investment. 

  • No investment is without risk; however, we are almost hardwired to accept promises of high returns with little-to-no risk. 

  • Framing bias can affect us all. People tend to avoid risk when a positive frame is presented, but seek risks when a negative frame is presented, and we can begin seeing patterns where they do not exist. 

Satisfaction Guaranteed

Lewis shared some red flags of investment fraud to keep in mind when analyzing an investment opportunity: 

  • Excessive promotion and attention to raising capital. 

  • Too much secrecy, confidential or proprietary trading secrets that someone refuses to disclose, especially surrounding how revenue is earned. 

  • The promise of extraordinary returns that are low risk or have a short turn-around time. 

  • Inconsistencies surrounding basic functions of the business model.

  • Excessive complexity in legal structure, revenue sharing, rolling up of other companies, etc. 

Finally, Lewis left both virtual and in-person attendees with one final note: Greater returns require greater work. Not all alternative investments are frauds, but they should require proactive, extensive and ongoing due diligence.