Years ago I came across High Yield Investment Programs and was shocked at their existence. They somehow continue to exist and after I had a twitter account promoting them start to follow me the other day, I thought they would make an excellent scam warning post.
There are certain things people who have been investing for a while will see that makes us 99.9999% sure something is a scam. There’s always the possibility of doubt (maybe the sun won’t rise tomorrow), but certain claims or behaviors make things seem quite suspect.
One of the biggest red flags is a guarantee of an outsized return. With investing, there’s such thing as a free lunch, so usually if someone promises high returns with low risk something else is going on – and you should certain dig until you find it.
Bernie Madoff, perpetrator of one of the largest Ponzi schemes in history, offered a 12% guaranteed annual return to his investors. The 12% figure isn’t outrageous, all sorts of investors have earned those returns. Heck, it was even possible in the 1980s to get those kinds of returns on certificates of deposit, widely regarded as one of the safest possible investments. The suspect part of Madoff’s scheme was that it was guaranteed (and paid) every year.
How Ponzi schemes work, and what Madoff was doing, is simply to pay past investors with the deposits from newer investments. As soon as the tide turns against you and more money is going out than is coming in, you take the money and run.
In its simplest case, imagine the “John Champaign Ponzi Scheme”. You give me $100 and in the first year I give you $12 back (from your own money) and I have a good time with $2 from your investment. You’re happy that you got your 12%, I lie to you that your investment is now worth $105 dollars – when it’s actually now worth $86 – and life continues. In the next year, I give you another $12 and take $2 for myself. Continuing to lie, I tell you your investment has now grown to $111, when it actually is only worth $72. This continues – me paying you money from your own initial investment and taking some cash for my troubles – for 7 years before anything looks amiss. The entire time you are getting your “high annual returns” and phony statements that look like everything is great. Around the 7 year mark, I either run off with what’s left, or I admit what I’ve done and go to jail. In either case, your money is gone. If I’ve been successful in getting a bunch of other people to give me their money, I can start paying you off with their cash to keep the party going longer.
HYIP are Ponzi schemes, but on steroids! Instead of promising 12% per year, they make truly outlandish claims like 800% per HOUR (with a “100% guarantee”)!!! This is truly ridiculous. If an investment actually could return 800% in an hour, and if it was compounded – continually reinvested – after 5 hours a single dollar would be worth more than all the wealth in the entire world (currently estimated at around 60 trillion).
This is clearly an outrageous and bold-faced lie.
I first came across HYIP when a woman was looking for a loan on Prosper. She wanted it for an “investment”, so I sent her a message asking about the investment. It turned out it was an HYIP, I could quickly tell it was a scam, and I wrote her back begging her not to give them any money – and certainly not to borrow money to send to them.
In the most recent Freakanomics book, they had an interesting theory about why the spelling and grammar in Nigerian Bank Scam letters are so bad. The thinking goes that when something is clearly a scam, the only people who will fall for it are easy marks – they don’t have any critical thinking.
Perhaps, like the silly e-mails we all used to get before spam filter, the crazy claims from HYIP are intended to drive away anyone who will ask reasonable questions.
Some people who realize that HYIP are no good try to make money indirectly from them. Some try to invest in the early stages, where the scammers will sometimes pay out hoping to get a good reputation and have more people invest with them. These “investors” know it’s a scam, but they try to get in and out before the whole thing falls apart. The other people make money from referring potential customers to the scammers – like the Twitter account that followed me. In my opinion, these two groups are as bad as the people running these scams.
Have you ever come across a HYIP before? What did you make of it? Do you know anyone who has been cheated by them?
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