Warning signs: how to spot and avoid Ponzi Schemes

AS ‘EXCLUSIVE’ investment opportunities promising extraordinary returns become increasingly common in South Africa, Certified Financial Planner Tyron Lessing reveals the three critical warning signs of modern Ponzi schemes and explains how emotional biases can lead even savvy investors astray.

- TYRON LESSING

AS A certified financial planner, I am often faced with questions about new investments that promise high returns with low risk. Examples include so-called ‘exclusive’ high-return funds that promise up to 30% annually and accept investors only by referral. Another example is a crypto token programme that rewards recruits.

Because these conversations are increasingly on the rise, it is important that investors educate themselves about Ponzi schemes and other potentially fraudulent investments, so they know what to look out for.

The term “Ponzi scheme” is named after Charles Ponzi, who became notorious for running a fraudulent investment scheme in the early 1920s. A Ponzi scheme is defined by a form of fraud where belief in the success of a nonexistent enterprise is promoted by the payment of quick returns to the first investors from money invested by later investors.

With time, these schemes have become smart. Very smart. Often, they possess all the hallmarks of a legitimate investment manager, including an FSP license, knowledgeable staff, a well-designed website, and even professional advertising. So how can you tell they arent legitimate?

When making a ‘low risk’ investment, you are most likely using a fixed interest instrument such as money market, corporate or credit bonds, or government bonds. These instruments aren't very likely to default; they are generally fairly “liquid” and make for a smooth ride when it comes to returns.