Ponzi Scheme: Understand the Trap

“If someone looks too good to be true, then probably it is not!” – You must have heard this phrase many times, but still, we fall for these kinds of traps. Everybody wants fast money, and thus, in this greed, they get trapped into several scams.

The Ponzi scheme is one of that common fraud traps. The scheme first started in the 1920s, but the fraud company got shelved in a few months when he was unable to pay off back.

The article would present you an insight into this fraud scheme. It would start with understanding the scheme, what exactly happens in it, and an example for better understanding.

Understanding the Ponzi Scheme

Ponzi scheme is a fraud investment where the profits are paid to old, existing users from the money of new investors. The scheme is an illegal scam where the company promotors guarantee the stakeholders with a high rate of return at no or low risk.

However, the scheme always shelves in the long term.The promotors rely on new investors; they attract them by spending all their resources and then spend all the cash inflow to pay the old investors. As a result, early investors spend more money into the scheme. But as soon as the cash inflow and new investors stop, company collapses.

What Happens?

The investors have no idea of where the money is coming. It is basically like hedge funds where the investors give their money to a financial wealth manager, and he then invests in them. However, the cash is actually coming by robbing other people.

The unexpected high returns impress old investors, and then they suggest it to more people, friends, & family . Thus, more money flows in!
But as we said, it can only sustain till the time new investors are spending. The day when the public wants their money back, the firm collapses.

Some of the most famous Ponzi schemes are the investment firm of Bernie Madoff and Plustoken (Chinese Crypto). In fact, Bernie might never be caught if the 2008 recession wouldn’t have occurred. Note that it still lasted for 20 years.Let us understand the scenario better with a case study.

Example:

In January 2020, John got to know about a company XYZ whose promotor is Smith. Smith met John through a familiar friend, and later he convinces John to invest $500,000 in his company. Smith promises John a 5% monthly return of the amount.

Smith agrees, seeing it a significant 60% p.a. return deal. The John starts getting the 5% amount, i.e. 25,000 dollars. But the reality is Smith is paying John out of his $500,000 only.

After six months, John is overwhelmingly impressed and convinces his another friend too. He also invests $1,000,000 into the Smith’s investment firm thinking it as legit.

They both have the misconception that Smith is investing the money somewhere, and returns are coming from the success of the business.
After three months, i.e. in September 2020, the payment of both John and his friend didn’t come. They tried to contact Smith, but there was no response.

Smith took the money and took off. Smith got $1.5 Million out of which he paid back$225,000 to John and $100,000 to his friend. He took the remaining $1.17.

The Bottom Line There is a difference between a legit and a scam scheme. Either people do not believe in both of them or invest in both. But the people need to understand the essential characteristics which scams have in common. Read the most common traits of a Ponzi scheme here.

The best thing one can do to know if the company is authentic or not is by reading reviews. There are a number of websites on the internet like Fxreviews.best which provide genuine and unbiased broker reviews. Check the website here.

And of course, if anything looks too good, then a sense of doubt must pop up in your mind.