There are as many types of scams as the minds of schemers can think of. For this post, we survey the first and most prevalent of all scams – the mother of all scams (pardon the cliché): the Ponzi or pyramiding scam. The aim is to increase our sense of awareness on such types of scams, be able to spot them as they knock at our gates and avoid getting entangled with them.
In year 1920, an Italian immigrant to the US named Charles Ponzi made a name in financial history when he made an offer thousands of investors find very difficult to refuse. He offered 50% return on investment in just less than two months. Mr. Ponzi scooped up millions in US dollars and early investors also profited handsomely, gaining excellent returns. The scheme, however, unraveled in 6 months time with the later participants left holding an empty bag.
The returns were paid up with funds obtained from later participants. The later participants lost everything in a grand scheme which is now variously described as “Ponzi scheme”, “robbing Peter to pay Paul” or “ pyramiding” scheme. The Ponzi label is obviously meant to add notoriety and ironic tinge to Mr. Ponzi’s egregious inventiveness.
Of the various descriptions, the term pyramid stuck most, probably because it is so suggestive of the scheme itself, i.e., a pyramid where the base continually expands and those ahead on top of it receiving millions from the new entrants.
Some authors distinguish “Ponzi schemes” from “pyramiding schemes”. The main distinction, accordingly, is that Ponzi schemes do not necessarily have the pyramiding geometric progression structure.
As far as this author is concerned, it is essentially the same banana. In the real world, boundaries are often blurred. It doesn’t help much to make the distinction since the key features are essentially the same- that of promising fantastic returns to entice participants, paying the earlier investor from the later ones, and inevitable collapse as the scheme runs out of new participants. The “running out” phase usually coincides with the scheme getting exposed as a fraud.
Whether the structure uses the geometric progression and collapse very quickly as in the classic pyramid or it uses just normal solicitation for new participants and collapse way later in the game like Madoff’s, the result is essentially the same – collapse of the structure and disaster for the participants.
Hence, for this post, this author uses the term pyramiding scheme or Ponzi scheme interchangeably to mean the same thing.
The Classic Pyramiding Scam
The classic pyramiding scam is fairly easy to spot. There are no products involved but it promises fantastic returns for participation in the scheme. One is just required to send money to the one/s on top of the pyramid and then enlist 2 or more members to keep the pyramid expanding. The enlisted new members will, in turn, pay to the ones on top and recruit their own set of new members.
The process goes on and on until the market gets saturated and runs out of new recruits. The scheme then collapses but the early birds run off with the loot from the later entrants.
Pyramiding schemes always collapse because the market of gullible people (or any market for that matter) always gets exhausted. Schemers then move to other places for a possible repeat performance.
The Albanian Episode
Pyramiding scams throughout history almost always leave a trail of impoverishment and suffering to victims most of whom are ordinary folks. Of the pyramiding scams in history, there is nothing, however, that comes anywhere near the extent of destruction, suffering and mayhem brought about by the Albanian episode.
In the Albanian episode which reached its peak in 1996 -1997, pyramids were everywhere and were actively supported by its own inept government. Pyramids were so ubiquitous and everybody was so obsessed that even legitimate businesses couldn’t help but join the fray. The pyramids outdid each other so much that interest returns offered even went crazily as high as 30% per month (yes, per month, not per annum).
The pyramiding mania became so irresistible that many people even sold their own houses and livestock to invest in the scheme. It was estimated that nearly 2 million people (out of a tiny population of 3.5 million) marched like lemmings to the pyramid beat.
When the pyramiding bubble finally burst in early 1997, tens of thousands went wild and about 2,000 people got killed in the rioting. The government of then President Berisha collapsed and it took time before an interim coalition government was able to restore order in a very sordid and messy episode.
The biggest lesson in the Albanian fiasco is that end-results of pyramiding scams can be so chillingly scary and that it has the potential of tearing at the very fabric of society. It therefore behooves everyone to guard against pyramiding scams and expose them wherever they appear.
The Philippine Experience
While not as widespread as in Albania, the Philippine setting has had its very liberal share of pyramiding scams just a few years back. Dozens of pyramiding scams ravaged the pockets not only of the kababayans back home but also, of the OFW sector as well. It is probably an understatement to say that thousands of OFWs were victimized in the Middle East alone and that millions of hard-earned money went down the drain.
No, the money did not go down the drain but rather, fattened the pockets and bank accounts of our own kababayan scammers. Investigations were made, court cases filed and “cease and desist orders” issued but hardly a cent returned to the pockets of victims. One notorious scamming company even went all the way up to the Supreme Court to contest its closure. Speaking of callousness, some are really world- class.
The Ponzi Mutants
Simple as it may seem, the pyramiding scam has however, evolved in years, and mutants or sophisticated variants thereof have appeared in recent years.
There is one particular type that we may call the neoclassical pyramiding scam which borrows features of legitimate marketing schemes. We, however, reserve discussion of this sophisticated pyramiding mutant for future postings.
In 2008, Bernard Madoff, the one-time Chairman of NASDAQ (National Association of Securities Dealers Automatic Quotations) was indicted and eventually convicted of defrauding thousands of US investors to the tune of US $50 billion. The whole investment empire he has been running for years turned out to be nothing but a big Ponzi scam.
The Fed described it as the biggest and worst Ponzi fraudulent scheme ever.
That the supposed experts of Wall Street and thousands of other investors in the most financially- advanced country in the world can be duped by a con man like Madoff is a testament to gullibility of mankind.
Back in 2001 when Madoff was questioned by Barrons about his methods or secrets for double digit returns, he blithely described it as “proprietary strategy” and that “he can’t go into details”.
Thus, the operative word or phrase here is “proprietary strategy”. Beware of this keyword (I think this keyword deserves a future post).
OFWs hearing such keywords in an investment solicitation pitch should better think a hundred times or better still, disappear promptly. Continued vigilance and awareness is necessary so as not to fall prey into these scams.
The Ancient Wonder
The Pyramid of Cheops in Giza, Egypt is the first and foremost of the ancient wonders of the world. It is a site to behold, it never fails to inspire awe and wonder to anyone and it is almost unequaled in magnificence.
It is the height of irony that an accomplishment so grandiose and so awe-inspiring is now inextricably linked and associated with a modern day financial curse: the pyramiding scam. It is as if the ghosts of ancient Egyptian pharaohs entombed in this pyramid and in the many other ancient Egyptian pyramids, rise up to inflict a curse on modern civilization… the “Curse of the Pyramids.”