Ponzi schemes are a broad category of scams that can be presented as virtually any investment (e.g. real estate, currency trading, or stock trading). They work simply by paying off early investors with their own money or with the money of other people who join later. It looks like the investment is doing fabulously well, and the person running the scheme enjoys all the accolades from “investors”. At some point the number of people joining will start to slow down, at which point the person running the program just leaves with all the cash.
Say I had developed a super lucrative currency trading system such that I offered you a return of 1% per day on your investment (an astounding 365% per year return). You give me $1000. I start paying you back $10 / day. As long as you don’t ask for your money back, I can pay you back with your initial investment for 100 days. This is unlikely to happen. Eventually you’ll:
- Want your investment back
- Will invest more
- Will tell your friends and family about this great investment
If you try 1, I happily return your money (and I’m out a bit of cash for the days I paid you). This reassures you that it isn’t a scam and will probably get you into position 2 or 3. At the very least you’ll hopefully reassure other investors that you were able to get your money back, “so it seems to be on the up-and-up”.
If I can sell you on the value of compounding, I may not even have to pay you out the cash each day (and can just show you a nice virtual account that keeps going up faster and faster until I leave town).
A woman was looking for a loan on Prosper and was talking about how she had their high pay off investment opportunity she was going to buy then pay back the loan with. It was a HYIP, which are basically all Ponzi schemes. I was really torn, because part of me wanted to warn her that she was in very dangerous waters, but another part of me was tired of having other people get angry at me when I tried to warn them in the past.
Since a Ponzi scheme can look like anything, you might think they’d be hard to spot. Thankfully, in order to get as many people involved as quickly as possible (to maximize the take when the con men leave town or the website) they tend to offer ridiculously good deals (like a 365% return). With any investment, there is a correlation between risk and return. There’s no way to get a safe, high return. If someone is offering you a safe, high return, you might be looking at a Ponzi scheme.