How not to be Scammed Madoff style

As if we didn’t get enough angst out of the financial markets crumbling due to the sub prime crisis, another scandal that rocked the financial circles was the “Ponzi scheme” run by former Nasdaq chairman, Bernard Madoff, that finally came tumbling down and that cost investors an estimated $50 Billion.

Ponzi scheme basically takes in money from investors and pays them off with money acquired from the next batch of investors. Aptly simplified as robbing Peter to pay Paul. This scheme will work as long as new investors are always coming in and the old investors do not pull out their money. The scam all boils down to trust!

Bernard Madoff leveraged his credibility of being a former Nasdaq head to get people to invest in his fund. The title of being a former head of the Nasdaq held such weight that the SEC didn’t bother to look into his investment firm as much. What also helped greatly was the fact that the SEC lawyer that was supposed to investigate the soundness of his firm, dated and eventually married his niece.

Other than that, he also provided an allure of exclusivity. Not everybody was allowed to invest in his fund, people were basically breaking down the doors of his investment firm because being a client meant that they were part of an elite club.

The sad reality is that with his fall, it was found out that his list of victims touched all classes. From the elite to charitable foundations, all lost a fortune in Madoff’s scheme.

This isn’t even a new thing, Richard Whitney, the former head of the New York Stock Exchange also bamboozled a lot of people from their money by preying on people’s trust and foolishness.

So how do you not fall victim to the Charles Ponzi’s, Richard Whitney’s and Bernard Madoff’s of the world when investing?

1. Invest in only what you know or can easily understand - Warren Buffett, probably the most successful investor in the world today, answered this to a question asking him why he didn’t invest in technology stocks during the boom years of the internet. The result was that he didn’t suffer during the implosion of the internet bubble. In case you still want to pursue this investment then be sure to ask for advice from a credible third party that is knowledgeable in this area.
2. You should be allowed to look under the hood - For any investment that has a rule that bars you from looking into how your money works for you, runaway immediately. It’s your right to know how your money will be used, where it will be used and how its supposed to pay you back. Especially since its your money that’s making it all possible for them. Ask to look into the financial statements submitted to the government to see how the company is really doing.
3. Beware of “Charisma” - A teacher of mine once said that our test answers should speak for us and not the other way around. He said this when some classmates were arguing why they should have gotten a higher grade in an exam. Likewise a product or investment should always sell itself. Some con-men will always leverage human nature when they can’t sell an investment/product based on its qualities alone. The usual “selling points” are: “you are a wimp for walking away from this once in a life time opportunity”, “do you want to be an employee for the rest of your life?”, “look at all that I was able to buy because of this” (truth is he’s just full of mortgaged property.
4. There are no friends or family in business - I’m not saying that you shouldn’t go into business with friends and family. In fact some of the top business in the country are family corporations. The real reason people go into business with family and friends is because the “long time” spent with them have enabled them to get a true measure of a person’s character, be it honesty or hard work. If you go to a public court house however, you will be enlightened by the number of cases being filed by friends and family against each other due to disagreements in business. To save yourself the trouble and costs of future litigation, be sure to make sure that all agreements, benefits and assignments are laid out well before you go into this venture. There is no downside for being prepared.
5. If it’s too good to be true, it probably is - They say that when pricing commodities or service, your markup should at least be 40% and that a business will usually recoup its capital in 5 years. Your average, guaranteed, time deposit in a bank will recoup you but 3% per annum. Any scheme that offers more than that could indeed be too good to be true, so take due diligence in studying their books, market share and procedures before investing. Another thing, if it really is that good, then why do they need your money? wouldn’t that just take away profit from them?

Socorro Ramos, the founder of National Bookstore, once wrote in her column at the Philippine Star, that the secrets to success has never really been a secret. It has always been about hard work, patience, perseverance and despite all your failures and setbacks, never giving up on your dream. Of course, you should also have a product that people can’t do without.