Fraud and Dispute Resolution in the World of Investing
Types of FraudHere is a partial list of some of the more prevalent fraudulent schemes to be aware of:
- Pyramid schemes: These are scams in which money from later investors is used to pay earlier investors.
- Affinity fraud: This label is used for scams that target members of a certain demographic. Targeted groups can include the elderly, certain ethnic or religious groups or any group delineated by an identifiable quality. Perpetrators will attempt to portray themselves as members of this group or people who can relate to the members of the group in order to gain trust and eventually money. Ponzi and pyramid schemes are sometimes combined in this type of fraud.
- Boiler rooms: Salespeople are hired to call unsuspecting individuals and push investment opportunities. These high-pressure calls are often used to pitch worthless or nonexistent securities. These operations typically consist only of a large number of telephones in a single room, giving rise to their name.
- Worthless promissory notes: Selling notes that are backed by insufficient or missing assets, con artists convince victims to hand over their money in return for a meaningless promise to repay. Sometimes these notes are even created in the name of fictional companies. Older investors are often targeted for these schemes because the notes are talked up to be safe investments with fixed returns.
- Message boards: Unscrupulous individuals may attempt to talk up small-cap stocks on message boards in order to inflate the price and then dump their own shares in the issue. When the price sinks as a result, the later investors are left with next to nothing, having paid to fill the pockets of the originators of the scam. These individuals may be shareholders who bought low and will sell once you drive the price up, or they may have been hired to drum up interest for the company's stock. It is important to take any information gained from message boards or any unknown information source with a grain of salt. Investment decisions should be based on sound analysis and not hype. The laws governing this sort of behavior can be quite complex, so, unlike the other scams listed here, comments on message boards are not always illegal.
Protecting Against FraudThe most important part of protecting against fraud is simply to thoroughly investigate any investment before committing money to it. Learn about the investment, check with regulatory commissions to verify its legitimacy and follow-up on the background of the individual or organization that you are buying it from. There is no excuse for not properly researching every investment. Although it can be time-consuming, your efforts will be repaid in the form of lower risk and higher returns.
In almost all cases, unsolicited investment opportunities are not worth your time. Therefore, most phone calls offering you any sort of investment opportunity can be completely ignored. In any case, it is essential to receive written information about any potential investment before making any decisions. Without it, no evidence of the agreed-upon transaction will exist. Also, never give out financial information over the phone, including credit card numbers, unless there is no doubt as to who is receiving the information and what they plan to use it for. Legitimate transactions can take place over the phone, but the burden lies with you to gather enough information to know that you are not in danger of being scammed.
Similarly, investment decisions should not be based entirely on information that is found online. Web pages do not represent sufficient documentation of investment opportunities. All contacts and information should be verified and written information should be acquired before any investments are considered.
Responding to FraudFraud victims often experience significant psychological trauma in addition to their financial losses. Falling victim to a scam can lead to feelings of humiliation and lowered self-esteem. It may be necessary to seek professional counseling to put the incident squarely in the past. As long as the necessary lessons about future protection have been learned, an experience with fraud should not be something that lingers or prevents future investing in legitimate securities. Legally, fraud cases can be quite complex and are not always as satisfying as the victims had hoped. Fraud is often prosecuted as a crime against the state which can push victims to the periphery of the proceedings. Upon conviction, victims will be provided with a Victim Impact Statement to begin the process of restitution. This statement and conversations with an investigator will serve to determine financial impact and the other effects of the crime (emotional, physical, etc.). A judge will determine a settlement figure to be divided among all victims. However, actual payment will depend on many things including the defendant's ability to pay. There are also avenues of civil litigation that may aid restitution, and it may be advisable to contact an attorney to investigate them.
Dispute ResolutionWhen dealing with investment professionals, there is always the possibility that disagreements over the proper management of funds will arise. Whether intentional or unintentional, problems may need to be sorted out. Possible problems include decisions made by money managers with the authority to make transactions or simply the execution of a stock trade by a broker. Keep in mind, however, that your rights may be limited by agreements that were signed initiating a relationship with the target of your complaint.
The most common methods of dispute resolution are mediation and arbitration. These techniques allow for speedy and fair conclusions without the often exorbitant expenses associated with court proceedings. Mediation involves the use of a facilitator to help two parties reach an agreement. Arbitration involves a more structured presentation of evidence and results in a binding and final decision made by an independent individual called an arbitrator.
Of course, the first step is simply to report the problem to the investment professional and their management. They may be able to put the issue to rest with minimal complications or they may choose to move forward into mediation or arbitration, depending on their policies and terms of the agreement the investor has signed. If a complaint is ignored or not handled as expected, it may be necessary to consult an attorney.
To identify potential problems, investors should keep track of any decisions or transactions made by their investment professionals and compare them against the list of investments and transactions that the professional has the authority to make. Any discrepancies should be reported immediately. Most transactions require the investor's authorization, so investors must know what they are agreeing to and be on the lookout for anything that they did not approve.
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