What is a Ponzi Scheme?
Much has been written about Ponzi schemes, the rights and wrongs of such programs and quite correctly warning people of the dangers of getting involved in schemes such as these. Sadly, many companies have also been wrongly accused of being Ponzi schemes by those that do not understand the difference between a Ponzi scheme and a legitimate business plan thereby damaging the future of those legitimate businesses.
In a nutshell, a Ponzi scheme is a fraudulent investment operation that has been designed to pay investors a large return on their money, unfortunately this can only be sustained by using the money being paid in by new investors. The schemes do not generate any profit so therefore only the initial investors have any chance of making a return.
A Ponzi scheme entices new investors by offering higher returns on their original investment than other more traditional investment opportunities. This is usually given as short term payouts that are abnormally high. However, as the scheme generates no profit, the high returns need an increasing amount of new investors to "keep the cash flowing" and consequently the scheme going.
Inevitably a Ponzi scheme is destined to collapse, due to the payouts eventually eclipsing the money coming in from new investors. However Ponzi schemes are usually interrupted by the authorities before they collapse. This is usually because the promoter is either selling unregistered securities, is gaining a reputation for higher than average payouts, or is unable to maintain payments and complaints are being made which eventually come to the notice of the respective financial regulators.
These companies become a victim of their own success as more investors get involved the more the chance of the scheme coming to the attention of the authorities.
Ponzi - A brief history
These type of fraudulent investment opportunities are named after Charles Ponzi, the first great exponent of the scheme.
In 1920, some years after arriving in the United States from his native Italy, Ponzi launched his great "get rich quick" scheme. His scheme was based on the arbitrate with International Reply Coupons (IRC), used to purchase postage stamps.
Ponzi claimed that he would, through a series of agents, purchase IRC's from abroad, places such as Italy and other European counties. These coupons would then be redeemed in the United States for postage stamps of a higher value. After costs, expenses and using international exchange rates Ponzi claimed to be able to make a profit of 400%.
The scheme generated millions of dollars in revenue before it was unmasked as a fraud. It was discovered that only 27,000 coupons had been purchased when in reality 160 million coupons were required to run the investment successfully. It was then discovered that Ponzi had diverted investor's money to pay earlier investors and himself. Soon afterwards Ponzi was arrested.
Ponzi and the Internet
The Internet is rife with Ponzi schemes. Terms such as "High Yield Investment Program mes" (HYIP) and "Offshore Investment Opportunities" are used to conceal Ponzi schemes and mislead the buying public.
Some Ponzi schemes offer long term opportunities with only medium rates of return. This is still unsustainable as no profits are being generated.
Any scheme that offers high income returns for your investment must be carefully investigated and researched before parting with your hard earned cash.
Ponzi didn't actually invent this system; there are references to similar schemes in Charles Dickens 1844 novel "Martin Chuzzlewit" and the 1857 novel "Little Durrit". Ponzi however was the first person to bring the scheme to life. His scheme took so much money that it was the first to be recognized in the United States.
So reader beware - research thoroughly before taking a leap of blind faith into a scheme that promises to change your life. Yes there are some good companies and many great opportunities but you need to trust your research and not the words of others.