PART 1 :: UNDER PRESSURE

 

Stockbrokers and stockbroker mismanagement are a very serious danger to investors and their loved ones today. As an Enforcement Branch Chief at the U.S. Securities and Exchange Commission, Investor's Watchdog founder Pat Huddleston saw thousands of investors lose their life savings to reckless stockbrokers and outright fraud. It's a fact: you are in danger from your stockbroker, in danger from a stockbroker you haven’t yet met, in danger from friends and family who fall prey to such a stockbroker and convince you to follow him or her. How does it happen?

 

There are more ways you can lose what you’ve worked for decades to save than we could cover in a year’s worth of articles. So, we will focus on one common scenario, in which your stockbroker sells you a cleverly-disguised scam. We’ve chosen this scenario because thousands of stockbrokers will soon be unemployed due to the nation's financial crisis and will sell scams because they are desperate for income.

 

It begins when your stockbroker hears of an investment opportunity that is paying higher than average returns. He might hear of the opportunity from another stockbroker, from a customer, or through a solicitation from the "investment promoter." The investment will usually guarantee a minimum return or guarantee preservation of principal, or both. But it isn’t usually the higher returns or the guarantee of safety that draws your stockbroker — it’s the higher commissions. His calculation is simple. He could continue to call you to try to convince you to buy stocks, one at a time, and earn a certain amount on each trade, or he could convince you to invest in this new investment and earn a commission equal to what he would earn in three years of such calls. Your stockbroker is a salesman who most likely has a family to support. Which do you think he will choose? 

 

Now, if he works for a brokerage firm, he knows full well that he is not allowed to sell investments that are not approved by the firm. He may submit the investment for approval. I have seen such scams formally approved for sale by brokerage firms. In most cases, though, the firm will deny the stockbroker permission to sell the investment. He then has a choice to make: (1) refuse to sell it and forego the big commissions; (2) resign from the firm so that he can sell the high commission product; or (3) sell it under the table. Through almost 20 years of protecting investors, I have never seen a stockbroker choose option one or two. Temptation is pressure, and people under pressure often do the wrong thing. He cannot resist selling something that pays such a high commission.

 

An experienced stockbroker, though, understands that his firm will not approve the sale of the new investment, and that asking for approval will only alert the firm to his interest in the investment, which will in turn result in his branch manager keeping him under a microscope, looking for evidence that he is selling it despite having been denied approval. The stockbroker will therefore not ask for permission, and he will try to keep the sale of the investment a secret from his firm. He will not tell you that, of course. You will believe that the firm stands behind him. You will sleep soundly, believing that if a firm as big and well-known as XYZ is behind this investment, they must have investigated it and found it to be legitimate. 

 

That’s how it begins. In Part 2 of Stockbrokers Gone Wild, we will address the features of the most dangerous type of scam, and how the stockbroker will present the investment to you.

 

Next: Anatomy of a Scam

PART 2 :: ANATOMY OF A SCAM

 

The central feature of the scam that will destroy your savings? Safety.

 

You will learn about it from someone you trust. It will promise guaranteed returns. You will see it work with your own eyes. And when all the smoke has cleared, all of your money will be gone.

 

You’ve likely read stories about people losing their life savings to an investment scam and thought, "How could anyone fall for something like that?" You’ve thought, "I’m too smart for that," not realizing that by saying that you have identified yourself as an easy mark. In our next article we’ll discuss in more detail some of the sales techniques that financial criminals often use. For today, please just understand that avoiding a nest-egg-busting scam is not about remembering a list of do’s and don’ts. It is not at all like steeling yourself to survive a high pressure time-share pitch. The secret is understanding yourself in a way that most people cannot. More on that next time.

 

In theses days of global economic recession, expect the most dangerous financial scams to have three features. First, they will offer a rate of return only a few points higher than what you could earn on more conventional investments. In my days at the U.S. Securities and Exchange Commission and since, I’ve seen scams offering double digit returns per month. Smart scam artists will know that promising something more within the realm of reason will likely yield a greater number of prospective buyers.

 

Second, expect some sort of "guarantee" on your investment. Whether it is an insurance policy or a personal guarantee signed by the investment promoter, there will be a guarantee.

 

Finally, the promoter will likely ask you to sign something promising to keep the details of the "investment" confidential. It will not look suspicious. It will likely look something like a standard non-disclosure agreement (NDA) that businesses frequently sign when sharing confidential information.

 

If you see an investment with any of those features, beware. More importantly, if you can see your reflection in a mirror, realize that despite what you believe you are highly susceptible to losing your savings. Protect it with private investor protection services, or risk losing it all.

 

Next: The Qualify Pitch

PART 3 :: THE QUALIFY PITCH

 

The Qualify Pitch, the Take Away Pitch, and the Test Drive. They are only three of the many sales techniques stockbrokers and scam artists will use to take your savings, or at least a good portion of it. In each of the next articles in this series, we will examine each of them in turn. Soon-to-be unemployed and/or desperate stockbrokers who turn to selling financial scams will likely use at least one — and probably all three — of them.

 

The Qualify Pitch. Humans put great value on exclusivity. We like to think that we are part of a select group. From the airline frequent flier club to the gated subdivision, being part of a select group makes us feel good. Both legitimate salesman and scam artists use that desire. A scam artist (including an otherwise honest stockbroker who may not yet realize that what he is selling is a fraud) will use that desire to pique our interest in an investment. "Before I tell you about this opportunity, I will need to get some information from you to determine whether you are a qualified investor," he might say. And we are hooked. He could be selling a truckload of cow pies, and most of us would still want to know that we qualify to receive it.

 

As with many techniques, this one is grounded in the world of legitimate investments. Regulation D of the Securities Act of 1933 limits certain unregistered offerings to “accredited investors.” The (faulty) idea is that wealthy people can look out for themselves and don’t need the protection of the securities laws as much as ordinary folks. Therefore, the thinking goes, businesses ought to be able to raise money from rich folks without the expense of a full-blown registration.

 

Many scam artists know more about the federal securities laws than general practice attorneys. They will know about Regulation D and may even structure their scam as a Regulation D offering, which will allow them to ask those exclusivity questions and even point to the law if someone asks why those questions are necessary.

 

Beware, therefore, any investment that a stockbroker pitches as "open only to a select group of investors." It might be a legitimate Regulation D offering. Or it might be the beginning of the end of the nest egg it took you decades to build. Find out for sure through an Investor's Watchdog QualifEye^® analysis, or risk being only the most recent baby boomer or senior citizen to learn that your craving for exclusivity has made you part of a rather non-exclusive, and not-so-prestigious club — The Investment Fraud Victims’ Club.

 

Next: The Take Away Pitch

PART 4 :: THE TAKE AWAY PITCH

 

We are in the midst of a series of articles in which we are following the likely course of stockbrokers who find themselves out of a job and/or desperate for commissions. We began with a look at why otherwise honest stockbrokers begin selling financial scams. We are now in the midst of an examination of three of the common sales techniques that brokers will employ in convincing you to turn over all or part of your nest egg to what you will learn, too late, is a financial scam. In Part 3 we examined "The Qualify Pitch." Today we take a look at the sales technique known as "The Take Away Pitch."

 

No one wants anything more than the thing they can’t have. The scam artist knows the human mind; he knows that scarcity makes things more valuable. Diamonds are expensive because there are relatively few of them. The Mona Lisa is priceless because there is only one of her.

 

Playing on this immutable trait of the human psyche, a scam artist will frequently tell his mark, without any particular urgency, that the opportunity to invest is fast approaching and that once the window closes another opportunity may not arise for quite some time. If the investor delays, the scam artist will back off, seemingly indifferent. When the investor calls with another question about the investment, the scam artist will tell the investor that the opportunity is gone (thus the name of the pitch — the "opportunity" is taken away). "You have to move on these opportunities when they come around or risk being left out,” the scam artist will say.

 

Here is where the artistry of the scam steps forth. The salesman will not say, “I’ll get you in on the next one,” or “I’ll call you if the window opens again.” He’ll remain silent, seemingly content to hang up the phone. He may even seem bored or preoccupied. The scam artist knows that if he simply waits, the investor will ultimately ask, “Will there be another opportunity?”

 

“It’s hard to say,” the scam artist may say, or “I doubt there will be another opportunity this year.” Again, he will be silent, conveying an attitude that says You asked a question. I answered you. Why are you still keeping me on the telephone?

 

“Will you call me if another window opens up?” the mark will ask. And there it is — pure scam genius at work. The mark is now working harder than the scamster. In the weeks that follow, the scam artist won’t call. The investor may call periodically, anxious to invest.

 

Eventually the scam artist will call, probably with an offer to “attempt” to get the investor into a deal that is “about to close and is fully subscribed.” Putting the icing on the cake, the scam artist may say that he can only get the investor in “if someone backs out at the last minute.”

 

You know the rest of the story — it plays out like any Ponzi scheme. If you suspect that a loved one is falling for The Take Away Pitch, caution them. At the very least, advise them to get an SEC-trained analysis of the supposed "sure thing" by contacting Investor's Watchdog.

 

Next: The Test Drive

PART 5 :: THE TEST DRIVE

 

In Part 5 in our review of how otherwise honest stockbrokers wind up selling financial scams, we are looking at a proven sales technique known as “The Test Drive,” and what it looks like in financial scams.

 

“You mean I can earn 10 percent per month in this investment?” you say. “I don’t’ believe it.” The scam artist is thrilled to hear it. “Well,” says the broker, "There are plenty of people clamoring to get into this thing, but I like you and don’t want you to lose this opportunity. So, I’ll tell you what. The minimum investment is $100,000. If I can find someone willing to put in just $90,000, I’ll ask the trader if I can pool those investments and get you in for $10,000 so that you can see how the program works.”

 

You have already started calculating how much you could make in an investment that pays 10% per month even if it works for just a few months. So you say, “OK.”

 

A few days go by and then the salesman calls up to say that he has found someone willing to invest $90,000 instead of the minimum $100,000. You give him a check for $10,000 and count the days off of the calendar. In thirty days you receive a check for $1,000. Thirty days later, you receive another, and another thirty days after that. And you are hooked. You’ve seen it with your own eyes — taken a test drive and like the way it handles.

 

You kick yourself for not putting in the full $100,000 initially. You calculate the money you "lost" by being cautious, and you ask the salesman whether you can jump in for the full $100,000. “I’ll see if we’re still accepting subscriptions,” he says. “There is a maximum we can raise and I have to check to see whether we’ve reached it.” You pray that you are not too late.

 

Finally, the word comes back that the investment is almost fully subscribed but that you can just get in under the wire. You write the check for $100,000 and think about how lucky you are. You’ll likely get a check for $10,000 the first month. You may even blow it on an extravagance, sure that those checks will keep coming. You’ve seen it with your own eyes after all. But have you?

 

The checks will soon stop coming. The salesman will have an excuse, and promise that the check will arrive soon. It might, but most likely not. You’ve been taken by a Ponzi scheme.

 

But what about the test drive? How could that work if the underlying profit generating machine was not legitimate? What you will eventually come to realize, probably from a Receiver appointed to clean up the mess, is that the $1,000 payments you received in the test drive were not profits, but your own money, or money stolen from someone else.

 

Do not believe your eyes. Instead believe the eyes of a former SEC Enforcement Branch Chief who will see things that you could not possibly see, and will notice omissions that you could never recognize.

 

Next: The Good Life

PART 6 :: THE GOOD LIFE

 

We’ve come to that time in our walk through the life of an investment scam when you, as the investor, are patting yourself on the back. The checks are coming, and you are making financial decisions on the assumption that they’ll continue to arrive on schedule. Maybe you bought that lake house you always dreamed of. Maybe you retired early.

 

After spending a few of the checks, you start to wonder why you aren’t "letting it ride" by reinvesting the checks. If the broker doesn’t suggest it, he will always confirm for you that it’s allowed, and praise you for making such a wise choice. So, rather than a check each month, you look forward to receiving your monthly statement. Month after month it shows your account balance rising so quickly that you begin to wonder whether Buckingham Palace is on the market.

 

You spend more time on the golf course and pick up the tab at the 19th hole. You let slip that you’ve found a fantastic investment that is producing guaranteed income at a rate no bank could ever promise. Your friends beg you for the details, and you put them in touch with your broker.

 

When you see your broker, he is driving a car worthy of a celebrity. He has box seats at the stadium. His kids go to private school. His wife is wearing a bigger diamond. He’s on the list of the top donors to the local United Way and other charities. He seems to be enjoying life almost as much as you are. But he isn’t. Next time we’ll look at things from his perspective.

 

Next: The Other Side

PART 7 :: THE OTHER SIDE

 

In our last article in this series we looked at those golden days during which you are receiving “income” from the great investment opportunity your stockbroker brought you. Now, let’s look at if from the other end. There are two possibilities: either your stockbroker knows that the investment is a scam, or your stockbroker — blinded by big commissions — does not yet know that he has put you and many of his other clients into a scam that will likely cost them a big chunk of their savings.

 

If your stockbroker knows that he is selling a scam, the warm feelings you have every time you receive a check are counterbalanced by his cold, heavy realization that he will not be able to send checks at this rate forever. He tries to entice more investors into the program. He might offer you a "referral commission" for getting your friends and family interested. He is desperate. He worries that his branch manager is going to find out about this. He probably has you call him on his cell phone, so that you won’t leave a message that might make his secretary wise to what he’s doing. He buys expensive cars. He buys real estate. He buys diamonds for his wife and/or girlfriend. He might even rent a luxury box at the stadium. He gives large donations to charity, perhaps figuring that he is buying dispensation for the fraud, but probably because it brings him notoriety, which in turn brings him more prospective investors.

 

If your stockbroker does not yet know that he is selling a scam, he is loving life. He’s never made more money than he’s making now. When he daydreams, he pencils out how much he’ll be worth by this time next year if sales of this investment keep up at this rate for another year, three years, five years. He, too, is worried that his branch manager will find out what he is doing. But things are going so well, that he is considering opening his own shop anyway, if he hasn’t yet. His days are filled with calls from satisfied investors who thank him for telling them about this investment, calls from prospects who have heard about it through friends or family and want in, and calls to and from the investment promoter, discussing the health of the investment, new investments, and the schedule for the next “distribution of profits.”

 

Notice that, in both of these scenarios, the stockbroker is worried about his branch manager finding out about the investment. Brokerage firms have strict rules that prohibit stockbrokers from selling anything that hasn’t been reviewed and approved by the firm. Your stockbroker knows that the firm never approves these types of investments. So, he never asked.

 

Here is where the type of firm your stockbroker works for becomes relevant. If your stockbroker works for a traditional brokerage firm, he has at least one manager on-site. The chances of your stockbroker getting away with selling an unapproved investment for very long are slim if he works at such a firm.

 

If, on the other hand, your stockbroker is registered through an “independent” broker-dealer, he likely does not have a branch manager on-site. A manager might come into town now and then, usually with advance notice, but for the most part your stockbroker can get away with just about anything. Stockbrokers registered with independent broker-dealers often operate under a separate business name, often with their last name in the title. Their offices are usually small, and they are often the only stockbroker in them.

 

Please understand, not all stockbrokers who are registered with independent broker-dealers are necessarily involved in selling scams. But, it is fair to say that they are less likely to be caught early on. By the same token, it is not at all unusual for stockbrokers who work for traditional firms to be involved in selling scams. They just have to be sneakier about it.

 

Apart from private investor protection, there is no way to for a layman to tell whether the investment a broker is pitching is legitimate. Baby boomers and senior citizens should get the advice of a former SEC Enforcement Branch Chief before investing a nickel of the nest egg it took so long to build. What it took you decades to save can disappear in a matter of weeks.

 

Next: The Beginning of The End

PART 8 :: THE BEGINNING OF THE END

 

The check won’t come — that’s how it will start. In this eighth in our series of articles following the course of an investment scam, we will take a look at "the beginning of the end."

 

You’ve been receiving checks on time, patting yourself on the back each time you deposit one. Or you’ve been “rolling them over” into what you believe are additional investments into this once-in-a-lifetime “opportunity.” Depending on how long you’ve been receiving them, you might not be alarmed when the check doesn’t arrive on the day you expect it . . . or the next day. . . or the next. At some point, though, something in the back of your mind will tell you that something is amiss.

 

You’ll call. You’ll ask your broker why you haven’t received the check. He will promise to investigate, saying that he will call you back. And he will. He will have an excuse. It might be a “bank delay” or “back office snafu,” or something having to do with an unexpected (but "harmless") delay in how the investment generates profit. Of course, you know now from having read this series of articles that there is not, and never was, any legitimate profit-generating engine. But the explanation will sound plausible, and so you’ll be patient for another few days. But Michael Moore will contribute to the George W. Bush Presidential Library before that check will arrive.

 

Or you might receive the check on time, deposit it, and get the call from your bank that it bounced. You will make the same call, and get the same reassuring response. You’ll worry a little more, to think that such an impressive organization has such sloppy bookkeeping. They might tell you to have the bank run it back through. It’ll bounce again. The scam artist is only delaying the inevitable at that point.

 

Those of us who have seen more scams than we can count know that the beginning of the end actually occurred the day you first turned over part of your money to the stockbroker pitching this “opportunity.” You’d have had a better chance if you’d taken the whole thing to Vegas. At least then you’d have had a chance. Instead, you shoveled a big chunk of your life savings into a furnace and didn’t even get to see an Elvis impersonator.

 

It didn't have to happen. Investor’s Watchdog exists to help senior citizens and baby boomers avoid losing their savings to cleverly-designed scams or stockbrokers who are either reckless, or just not paying attention. Hire private investor protection the same way banks hire private security when transporting cash, or prepare to become a cautionary tale.

 

For some, the end will be much more abrupt. You will learn about the scam when the SEC closes it down. We’ll cover that scenario in the next article in this series.

 

Next: Madoff Run Amok

PART 9 :: MADOFF RUN AMOK

 

On the front page of the Wall Street Journal on December 12, 2008, was the story of Bernard L. Madoff, founder and principal owner of registered investment adviser Bernard L. Madoff Investment Securities LLC. The U.S. Securities and Exchange Commission and federal prosecutors have accused him of running a $50 billion Ponzi scheme.

 

“Our complaint alleges a stunning fraud that appears to be of epic proportions,” said Andrew M. Calamari, associate director of enforcement in the SEC’s New York office. Out of more than $17 billion in assets under management by Mr. Madoff’s firm at the start of 2008, essentially all the assets appear to be missing, the SEC alleged.

 

According to the WSJ Madoff admitted the fraud to senior employees, telling them that his business “was a fraud,” and that “it was all just one big lie.” The firm employees say that they understood Madoff’s statements to mean that he has been paying investors with the principal paid in by later investors in classic Ponzi fashion.

 

Investor’s Watchblog has posted about the revelations of fraud that would emerge from the recent financial collapse. Frightened investors have been demanding redemptions of investments in hedge funds and other unregistered securities. The hedge fund managers who have, thus far, been able to keep up the illusion of legitimacy, are now finding it impossible to conceal their fraud. Expect to see more stories like this in the weeks and months to come.

 

Madoff is the former chairman of the Nasdaq Stock Market. He has had a stellar reputation on Wall Street for 50 years. All of you who are prone to belie

ve that you would never fall for an investment scam, ask how it is that you would have seen what no one else saw.

 

Madoff is in federal custody and the Court has appointed a Receiver to take control of the business and marshal assets. It remains to be seen whether Madoff’s investors will receive anything. Private investor protection is the only reliable way to protect yourself from the cold panic that is now gripping Madoff’s investors, many of whom have, no doubt, lost their entire life savings.

 

Next: Bernard Madoff :: Follow the Madness

BERNARD MADOFF :: FOLLOW THE MADNESS ON INVESTOR'S WATCHBLOG>

 

Bernard Madoff’s $50 billion Ponzi scheme may have ripples all over the world. It will be months, if not years, before it fades from the headlines. Let us hope that the size of the scam does not lead people to write it off as a once-in-a-lifetime event, akin to the current worldwide financial collapse.

 

While Madoff’s scam is bigger than most, in every other respect it appears to be a thoroughly average hedge fund fraud. There are hundreds of them operating in the United States right now. The chances are good that you know someone who has lost money in a similar scam.

 

We have taken a small detour from our path along the route of a typical investment scam to comment on what the Madoff case can remind us about investment fraud. If you remember nothing else, please remember that investment fraud is common. Like they used to say about the British Empire, the sun never sets on it. Unlike the British Empire, investment fraud will never wane.

 

If you are a baby boomer or a senior citizen, at this very minute at least one broker and/or scam artist — maybe more — has plans to relieve you of a good chunk of your savings. I am not saying that they intend to take nest eggs from people like you. I am saying that the chances are good that — right this minute — you (aka, the person you see in the mirror) are either in a scamster’s cross-hairs, or just one introduction away from being there.

 

It will be hard for Bernard Madoff to think of himself as smart when he’s sitting in a cell in a federal penitentiary. And no one who has a heart for the victms of schemes like his can admire anything about his fraud. But, among the community of scam artists, his scheme has, no doubt, attracted admirers who will learn from Madoff’s example. 

 

A scheme that lasts for perhaps two decades is extraordinary. The SEC or state regulators usually catch Ponzi operators within two to three years, and often stop them while there is still money left that can be returned to investors. Twenty years is, indeed, an accomplishment that should guarantee Madoff’s induction into the Scam Operators Hall of Shame. This article is not intended to praise Madoff, but to point out one aspect of why he was so “successful” for so long, so that investors can better appreciate the risk they run investing with anyone — whether a stockbroker, investment adviser, or hedge fund manager — without first employing a private investor protection company to do a thorough pre-investment investigation.

 

In addition to the ubiquity of investment fraud, what Madoff teaches us is that even very sophisticated investors find it impossible to recognize scam operators until it is too late. Only a former SEC Enforcement Branch Chief has seen enough scams, scam artists, and reckless and negligent brokers, to help you avoid them.

 

Is today the day you start protecting yourself, or is today the day you see your broker’s name on the front page of the hometown paper in a headline about his indictment?