Tuesday, 13 March 2012

Too good to be true...

*This is worth reading all the way to the end, even if I say so myself…

As an amateur psychologist, I find it fascinating that people seem to love being lied to. Of course they won’t admit to that, and no one would openly set out with the intention of being deceived, but it happens so often that you have to question it.

If you tell someone they look really good today, they are immediately inclined to like you. If you tell them they look like crap, they’ll think you’re not very nice. Many people subscribe to the theory that “if you haven’t got anything nice to say, you shouldn’t say anything at all”. Interestingly, the question of accuracy is often dismissed in its entirety – people simply like hearing things that they like, and don’t like hearing things they don’t like.

And there’s plenty of evidence to demonstrate that if someone wants to believe something strongly enough, they eventually will. Throughout history, and even in the present day, an immeasurable number of people willingly die for various religions – because they “know” it’s right – even though logic dictates that they can’t all be right, therefore at least all but one of them are wrong. I guess it depends on how strongly you desire 72 virgins. (Some people prefer experience).

The same thing happens in the financial services industry too. You will surely have heard of Bernie Madoff, the previously well-respected chairman of the NASDAQ stock exchange in the USA, who managed to con thousands of people out of approximately $36billion via his Ponzi scheme, most of which was “lost”.

The reason? He provided fantastic investment returns (on paper). Some people were even paid out fantastic returns – most notably his sons, who withdrew more than $35million after investing less than $100,000. Hmmm.

But it wasn’t a complete con. Why? Because there was plenty of evidence that something wasn’t right, and yet people continued to invest with him. The US Securities & Exchange Commission received several warnings from several different people (mostly investment analysts) that his returns weren’t legally and mathematically possible, yet they continued to ignore them. Almost everyone seemed to be ignoring any evidence which didn’t support what they wanted to believe.

And it wasn’t the only scam of its kind - just this week, Allen Stanford (an American guy who owned a big chunk of Antigua) was convicted of running a big Ponzi scheme, which “lost” approximately $7billion. Did his figures stack up? No. Did the authorities receive warnings about him? Yes. Did anybody do anything about them? No. They all just waited until the scheme ran out of money, then appeared shocked and upset that such a terrible thing had happened. Again.

It’s worth pointing out that Ponzi schemes (money received from new investors are used to pay “fantastic” returns to older investors – usually the operators of such schemes) are not new. The term “Ponzi” is named after Charles Ponzi, who operated in the USA over 100 years ago. But he wasn’t the first – Charles Dickens refers to a similar scheme in his novel Little Dorrit (1857), and I’ve no doubt that there were plenty in operation thousands of years before that. Human nature doesn’t change that much.

Clearly, people as a group (and arguably as individuals) don’t learn from past experiences. So it would be naïve at best (and plain stupid at worst) to believe that such schemes won’t “con” other people in future. What about the present?

Well, I have some breaking news for you. It concerns a certain “litigation fund” (which shall remain nameless) which has been fairly heavily promoted around Jakarta recently… Is that also a Ponzi scheme? Well, let’s examine the evidence.

Firstly, let’s look at the definition of a Ponzi scheme – taken from the website of the Securities & Exchange Commission in the USA (if only they listened to their own advice…):

* High investment returns with little or no risk
* Overly consistent returns
* Unregistered investments
* Unlicensed sellers
* Secretive and/or complex strategies
* Issues with paperwork
* Difficulty receiving payments

Now let’s look at the “litigation fund” scheme details:

* 100% capital protection (no risk)
* Guaranteed return of 12% per year (relatively high return – not massive, but certainly consistent)
* No idea where it’s registered, if at all – I can’t find it on Google, can you?
* I’ve no idea if those selling this are licensed or not, ask them
* Investment strategy – seems relatively simple, but what happened to “no win, no fee” litigation? Why is there a need for funding?
* No idea about the paperwork
* It’s not been around long enough to have paid any returns

So is this a damning indictment? Not yet. After all, there are perfectly legitimate investments which pay relatively high, consistent returns – Indonesian Government ORI’s for example. (“High” return is debatable due to inflation figures).

And just because an investment is unregistered, and the seller is unlicensed, it doesn’t mean the investment is bad – many people would happily buy investment bonds from a company run by a friend, for example.

But in my experience, extraordinary claims require extraordinary evidence to back them up. And if that evidence isn’t forthcoming, then it’s time to worry.

I have it on good authority that a particular Placement Agent (distributor) of the “litigation fund” has now severed all ties with the company which manages the scheme, on the basis that some of the requested evidence was simply unforthcoming, and a lot of the claims made were simply unsupported by any evidence at all.

I’m yet to find out conclusively whether this is because the evidence was never there, or whether there were changes to the original investment prospectus – a lot of Ponzi schemes start off as genuine investments, but a combination of greed and ego later morphs them into a scam.

In this particular scenario, the “guaranteed” element of the investment offer was reliant on an insurance policy, backed up by cash, which paid out in the event of a litigation case being lost. That insurance policy was then reinsured, and supposedly backed up by a big global insurance company. According to what I have been told (first-hand), this was either never demonstrated, or was fairly recently changed (for no apparent reason) and not demonstrated since then.

So why has it been relatively successful? Simply because people want to believe that it’s an excellent investment. They want to believe that you can make relatively high, guaranteed, consistent returns, with no risk. They want to believe that it’s awesome, despite all the evidence pointing to the conclusion: “This is clearly unsustainable”.

The other possible reason that it’s been relatively successful is that it (apparently) pays a very high commission to the seller. I can’t confirm that, as we never got as far as discussing that – at Imperium Capital, we were still in the initial stages of our internal due diligence processes for this investment proposition. (We’re not going to bother finishing them, as I don’t think they’d ever be completed).

Whatever the reasons are, I’d strongly suggest that you don’t go near this “investment” – no matter what it says on the flyer - if you can’t demonstrate how something is protected, then by definition it’s risky. And right now, the only thing backing up these extraordinary claims is the statement “because I say so” by some non-identifiable entity.

If you are worried about any investments you’ve made, or would like a second opinion on any investments you’re thinking about, please get in touch by email - I’d be really happy to meet you and review them with you, free of charge. It may end up saving you a small fortune.

PS: You look really good today… ;)

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