How to Spot Investing Frauds, Scams, Ponzi Schemes, and Other Rip Offs

I was having a conversation with a reader earlier this week, and we both got to talking about the vast number of investment schemes peddled everywhere from newsletters to the internet to television. There’s a surprising lack of good advice on how to spot it and a disturbing failure on the part of many consumers to research products and advice. So I’d like to provide my own checklist of things to look out for when considering the purchase of advice, services, or products promising to make you tons of money. These are a few telltale signs of ripoffs and garbage that simply isn’t worth your time or money. The list is not exhaustive, but offers what I believe are some good things to investigate or think about when considering the purchase of investment advice or education.

1) Promises or guarantees of excess returns, especially in a short period of time. Whenever you read or here some charlatan sharing his “magic formula” for investing success that made him millions or some “testimonials” from “average folks” going from rags to riches and making a fortune in the market, be aware. If you believe their claims are genuine or you’re not sure, always ask yourself both how long it took them to do it and how much they started with. After all, anyone could make a hundred thousand dollars in a year if he started with $2 million. But if someone says he started with $1000 and in two years turned it into $1 million, run and run fast — never trust claims of 100,000% returns. There is simply no method that yields huge returns which is not extraordinarily risky and leveraged, meaning that that person could just as well have been in debt $1 million.

2) Lack of SEC registration as an Investment Advisor. A really simple way to spot something that might be shady is to check whether the seller has registered with the SEC. It is illegal for anyone or any entity to directly sell investment advice without notifying and filing with the SEC as a Registered Investment Advisor (RIA), and, trust me, anyone who is legit will surely share it with their customers, usually upfront and center. Now, things get a bit fuzzy because general investing education programs, newsletters, etc. usually do not require registration and can still charge for services. Nonetheless, if you don’t see the SEC’s stamp of approval, consider avoiding it. It’s also important to note that the presence of RIA status should likewise not be taken as a green light — plenty of registered advisors are not to be trusted. In any case, it’s just another clue to take a look at.

3) Lack of documented and verifiable returns or success stories. If an investment advice peddler is charging for services, be sure to get or ask for a track record, study, or other verifiable data demonstrating that the system or advice is sound and, well, works. Any idiot can start a website with a stock-pick newsletter, or a “system” for large, imaginary profits, but of the many, many programs out there, few will show you documented or audited results and even less will share any study indicating that their way works (for instance, by back testing). Of course, it’s easy to fudge numbers and take some liberty in creating phony returns, so the more rigorous and verifiable the data, the better.

4) Lack of a free trial. If someone is offering a “system” or regular newsletter for investing success, they’ll usually offer some sort of free trial period if they are legitimate, to allow you to test out the product before committing to buy it. If they want to get you locked in to the product and don’t offer the opportunity to test it, think long and hard before buying it.

5) Money back, satisfaction guarantees. I’m honestly a bit conflicted on this point, but here’s what I think. On one hand, if a company is not willing to put its own money where its mouth is, why should you? On the other hand, because around 70% of products are never returned even when fraudulent or stupid, even a scam artist can make such a guarantee and come out on top. So while most companies offer either a money back guarantee or a trial period (but not both), all things equal, I prefer the trial period. If it’s missing either, don’t bother.

If a company does offer a money back guarantee, it’s important to note that they should be guaranteeing “satisfaction” and not excess profits, since, as we discussed above, that’s usually another sign of a ripoff. No legitimate source — not even the best investors themselves — would ever tell you they can promise excess returns. Remember, you can still lose a ton when someone promises you profits, and simply getting your $200 back from the guarantee won’t recoup the $10,000 you lost using crappy systems, advice, or stock picks. And in some cases, the company may never even respond to your request to get your money back. Which leads me to the last point:

6) Check the BBB. The Better Business Bureau is a great resource for consumers looking to investigate the actual satisfaction of customers. It’s not perfect since many dissatisfied customers fail to report (indeed, many consumers in general don’t even think about reporting). But it’s another indicator. A fair number of irate customers is a definite red flag, so keep an eye out.

I’ll try to edit and fill into the list based on reader’s suggestions and anything else that comes to mind. So if you can think of anything you’d like to add, contact me.