When Investing, Exercise Due Diligence To Avoid Ponzi Schemes

by icpc on February 5, 2014

(Republished with permission) The Ponzi scheme was named after Charles Ponzi (1889-1949), a small time swindler who hit the big time when he invented a lucrative con in the 1920s that netted him more than $15M. Ponzi’s con (confidence scheme) was simple. He operated an extremely attractive investment scheme in which he guaranteed investors a 50 per cent return on their investment in postal coupons. Although he was able to pay his initial investors, the scheme dissolved when he was unable to pay investors who later put money into the scheme. It was good while it lasted, but Ponzi was eventually arrested and spent four years in prison.

Fast forward to 2008, the multi-billion dollar Ponzi scheme of New York investor Bernard L. Madoff was uncovered; a fraud that resulted in both prominent business figures and small business people scammed out of their investments. He employed at the firm his brother Peter as Senior Managing Director and Chief Compliance Officer (Peter has since been sentenced to 10 years in prison), Peter’s daughter Shana Madoff as the firm’s rules and compliance officer and attorney, and his sons Andrew and Mark (Mark committed suicide by hanging exactly two years after his father’s arrest). On March 12, 2009, Madoff pled guilty to 11 federal crimes. On June 29, 2009, he was sentenced to 150 years in prison with restitution of $17 billion.

In our review of investment and other frauds we investigate and prosecute, we are continuously surprised by the lack of due diligence fraud victims consider  before making their ill fated investments. Although commonly reported on the internet and in investment periodicals, it is well worth repeating some basic steps all investors can take to avoid becoming victims of fraud. The following is a list of due diligence steps compiled by the American Association of Individual Investors – a list that we endorse:.

1) Question the Motive of Everyone Who Asks You to Invest With Them

Even if you are approached by a family friend, a relative, or a major financial institution, ask:

  • How much money am I expected to put in the investment?
  • Are these returns too good to be offered in the marketplace?
  • Are any of these returns “guaranteed,” and if so how and by whom?
  • How liquid is my investment; can I get my money out?
  • Can I get third party verification that the investment program works as represented.

If answers are unclear or not forthcoming, walk away. If you are told not to worry about where your money is going, you should leave quickly.

 2) Question Where Your Money Will Be Held

Regardless of who is requesting your investment money, someone will have to have custody of it. Ask if the account will be held in your name. If you do not have access to an account (as in a private investment) or daily ability to make withdrawals (as in a hedge fund), press harder for even more information about the custody of your assets and the reliability of the custodian. Make sure you know who it is, and how you can contact this individual or company. And ensure that these statements are sent to you directly from the custodian firm — not from the advisor.

3) Keep Written Materials About Any Firm You Are Doing Business With

Look for academic credentials, professional certifications and designations, and a solid work history. Unexplained gaps in the work history, names of firms that you can’t easily trace, and credentials that don’t look right to you are all warning signs. Most professional certifications are backed by associations you can call or e-mail to make sure a person is an accredited designation holder.

4) Bring a Trusted Advisor With You When Interviewing The Firm

If you are told that it is not necessary to bring another person to a meeting, that you don’t need to take notes, and you cannot take anything with you from the meeting, you should be wary. The desire for privacy should come from you, not from the firm you are interviewing. If the amount being invested by you involves an amount more than you would throw away at a casino, it is wise to invest in a lawyer or accountant to review the plan and even attend the meeting with you. If you do not have someone like that available to you, ask a good friend to be a sound board of independent judgment.

5) Feet On The Ground

Make sure they have offices you can visit, and where they are known. Don’t settle for a meeting in some other firm’s conference room without a thorough explanation of why you’re meeting there. If you can’t locate the firm’s office in the building directory, or if a firm’s staff seems unfamiliar with the individual you are meeting, chances are your advisor is a shyster. There is no replacement for a ‘feet on the ground’ verification check.

6) If Something Sounds Too Good To Be True — It Probably Is

Greed is the vice of most fraud victims. Every time you are interested in something that sounds attractive but incredulous at the same time, ask questions and consult with a trusted friend and / or an independent professional. Omissions, answers that don’t make sense and grandiose claims are warning signals.

7) Take Time to Think About It

Don’t sign up for anything you must take advantage of that day. If something is good and honest, it will still be available to you later. A salesperson who pushes you to sign something right away may have motives not in line with your best interests. There are always other opportunities – do not get sucked in by high pressure tactics.

8) Avoid Investments, Advisors and Approaches That Are Opaque.

Investment professionals talk about investment assets in terms of transparency — that is, they are clear to anyone who wants to look into them. Fraudsters will tell you they can not provide transparency, because otherwise everyone will get involved, and the special return will be marginalized. For the most part, this is non-sense. As a general rule, if you can’t see the individual securities or assets within the investment, and don’t know anything about it, you cannot possibly appraise it. And you should not invest in it.

9) Be Wary of Evasiveness

Fraud victims often recall, after the fraud is uncovered, that their advisor became evasive when asked about costs involved in the investment. There is no reason not to get a complete and satisfactory answer to your queries. Evasions and distractions are not a good substitute for clear, easy to understand answers to your questions. If an advisor seems angry or aggressive about your need to know, this is not a good sign, and should be a flag to you to invest in some professional due diligence.

10) Trust Your Gut

Your intuition is your radar for what feels right and what could be wrong for you. It is that queasy feeling you get when you cannot pinpoint a danger, but you feel a danger lurking around you. We all have it – but many of us do not know how to read or recognize it. And it becomes increasing difficult to be aware of when the feeling of greed becomes strong. We recommend that when you get that feeling, step back, and advise a professional or a trusted friend you have had feeling of discomfort but you do not know the rational for it. As in many decisions involving trust, if something is not right, follow your instincts to flee.


Investment frauds, like all frauds, are based on trust. If you have questions involving trust in the persons who are investing with, do some due diligence. Or if you have transferred your wealth to someone, and then come to have concerns, contact us before alerting the fraudster to have your case assessed and a strategy for recovery put in place.


Norman Groot, LLB, CFE, CFI – January 9, 2014


Norman’s practice is focused on fraud recovery litigation for retailers, insurers, private companies and individuals who have incurred losses to rogue employees, officers or directors, or due to failed investments or contractual arrangements with ill intentioned third party service providers or others. Norman also provides Independent Supervising Solicitor (ISS) services for other law firms that obtain Anton Piller orders (civil search warrants). Norman practice also consists of representing police and private sector investigators in criminal, civil, and regulatory actions. Norman is counsel to the Canadian Association of Special Investigation Units, the Canadian Independent Adjusters Association and the Canadian Association of Private Investigators on fraud and investigation matters, and on the board of directors of the Association of Certified Forensic Investigators of Canada.

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