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Fraudsters and imposters: Fuelling a financial frenzy

A perfect plot planted in promises and prospect…lurking around in three potential hot spots: cryptocurrency, artificial intelligence, and COVID-19 vaccine research.

Say, for example, that you started your own lemonade stand by borrowing $100 from your Aunt Sally and realize two months into business operations that you haven’t generated enough revenue to repay her. So you ask your Uncle Joe for some cash, promising to pay Aunt Sally the initial $100 plus $10 interest for the delay. Now in deeper debt and without much recourse, you turn to your cousin to repay Uncle Joe, since Uncle Joe’s money just went to repay Aunt Sally.

Lemonade and cash flow aside, you’ve now got yourself one thing for sure: some underground operations that may pass as a baby Ponzi. Probably no need to be too concerned, as long as you’ve got an infinite supply of relatives to keep lending to you.

While the infamous plot is accredited to Charles Ponzi of 1900s Boston, it was not original: Ponzi had his predecessors. And he’s got competition, too: Bernie Madoff and Allen Stanford may be vying for the contemporary title.

Pyramid scheme structure
The basic structure for Ponzi operations.

Theoretically, this endless pile of debt is infinitely sustainable so long as the rate of interest is less than the rate of growth. Essentially, if your investment returns exceed the debt plus accrued interest owed, your Ponzi can keep going by continuously rolling over the debt to the next period. From the Ponzi perspective, this is the best-case scenario (which may also be applicable from a tax standpoint): you never have to pay off your debts, because they roll forward. Someone will eventually pay it off centuries later…right? Just not me.

Precisely, this points to the primary problem with Ponzis: they’re typically structured in a way so that they generate no, if not negative, returns. After all, reinvesting funds into six-figure annual leases in Manhattan or luxurious vacations is not the same as engaging in high-risk trading strategies such as derivatives trading or forex leverage.

The perfect Ponzi impostor

One of Ponzi’s predecessors is the 1840s con artist William Thompson, whose gentlemen-like dress and eloquent conversations fooled upperclassmen into believing they were formerly acquainted. Once this initial layer of trust had been established, Thompson would proceed to “borrow” the other gentleman’s watch and then disappear. Our modern-day concept of the confidence man comes from such con artists and their confidence games; Thompson is often associated with coining the term.

The 19th Century Confidence Man
While it is tempting to classify the confident man as a thief, such a fraudster is, au contraire, not actually stealing anything. Instead, he relies upon his charm to trick the victim into willingly handing over the money.

At the end of the day, Ponzis prey on public trust – a manipulative tool that proved more powerful than ever predictable over time. As trust must outdo any reservations present, an influx of new investors must continuously outpace former additions to keep the scheme alive. These investors are generally the unraveling points for such schemes.

Fraudster fuel: get quick rich converts to inevitable risk

No industry is excluded from the fraudulent fête – and certainly, no one is an exception from falling prey. Confidence games continuously trap investors as they feed on the mutual innate desire to get rich quick – a version of the American dream s.l. permeating all rungs of the socioeconomic ladder.

An ideal Ponzi biome would feature mass public interest, complete with an aura of lucrativeness, and shielded by its enigmatic, esoteric atmosphere. After all, you need the paparazzi, press, attractive promises, and just the right amount of obscurity to lure in the ideal target. In light of recent developments, three fields may potentially fit the bill: cryptocurrency, artificial intelligence, and COVID-19 vaccine research.

Not your classic confidence game: Donning deceptive new designs in the crypto-world

Having been well-established for some time, cryptocurrency may not arouse suspicion from many seasoned investors. Proponents argue that Bitcoin (BTC-USD)  does not meet the Ponzi criteria since the cryptocurrency was never created to rack in outlandish profits.

Specifically, Lyn Alden Schwartzer cites Bitcoin’s launch process, unpromised investment returns, its open-source platform, lack of pre-mining, and leaderless growth to affirm its fraud-less financial legitimacy. However, Schwartzer does note that some third-party exchanges and subsequent cryptocurrencies did not adhere to similar guidelines and may turn up fraudulent.

But a lack of intent whatsoever on behalf of the creator does not imply the same from users and traders.

Bitcoin SV backer Craig Wright’s sister, Lisa Edwards, set a $142,000 target for the cryptocurrency. Her $90,000 prediction for this May, drop to $55,000 next January, then final ascent to $142,000 by March 2023 is grounded in the Elliot Waves trading theory, which predicts asset fluctuations through analyzing a repetitive wave pattern model.

If you’re not convinced by this seemingly outlandish target, you can confer with the JP Morgan analysts, who expect long-run prices to reach $146,000. (Exercise caution, however, as they go on to add that these price levels are likely unsustainable.)

The institutional fund Guggenheim Partners is considering a $500 million Bitcoin investment, given CIO Scott Minerd’s $400,000 price prediction which is based upon the global gold supply.

Nevertheless, Edwards’ refutation of Bitcoin as a Ponzi is rooted in the basic supply and demand model: a flood of surging demand plus fixed supply (of 21 million) equates to endless price growth. Therefore, in her logic, Bitcoin is here to stay and not a Ponzi.

The Cryptocurrency Supercycle
Lisa Edwards’ prediction for the continuous ascent of Bitcoin prices per the Elliot Waves theory and neoclassical economic model of supply and demand.

Counterexamples to the rose-colored glasses of Schwartzer and Edwards run abound throughout the crypto-world. An apparent issue lies in the mind-blowing observation that a sizable number of crypto funds worldwide are run by people with no real-world financial experience (e.g., college students or recent graduates).

After dropping out of UNSW in 2016, Stefan Qin started his own crypto hedge fund Virgil Capital with a $40,000 cheque from a former professor and his brother’s scholarship money at age 19. His 500% returns – allegedly rendered possible through monitoring global cryptocurrency exchanges aimed at seizing price fluctuations with his algorithm Tenjin – soon drew in a flurry of novel investors.

Supposedly, the firm’s funds would remain market-neutral – or unaffected by market-wide price movements – and investors would enjoy 10% monthly returns that would amount to 2,811% accumulated over a three-year span, as touted by marketing brochures. 

Crypto Hedge Fund: Virgil Capital
Stefan Qin describes profiting off of Bitcoin despite market fluctuations.

Somehow the bragging converted to cash inflows that paid for a $23,000 per month apartment in a 64-story luxury condo building overlooking lower Manhattan, complete with a pool, sauna, hot tub, and golf simulator.

But with Ponzis, there is no happily ever after; last December, nine investors showed up to redeem their collective $3.5 million from the flagship Virgil Sigma Fund LP. Instead, investors were redirected to transferring their interest into another fund controlled by Qin, the VQR Multistrategy Fund LP. The fund’s missing assets, however, merely yielded fabricated balances – no money transfers.

When Qin’s attempted $1.7 million withdrawal aroused the suspicions of head trader Antonio Hallak, Qin strung together an assortment of explanations to hide the loose end – from dealing with “poor cash flow management” to loan sharks who “might do anything to collect on the debt” to aliquidity issue. Once the $90 million Ponzi robbing 100 investors per federal prosecutors unraveled last week, Qin pled guilty to a single count of securities fraud in federal court.

Yet another similar story unfolds with Jeremy Spence of Rhode Island, who winded up facing prosecution on 26 January. A lack of Wall Street exposure did not hinder the twenty-four-year-old from raising $5 million out of 170 investors through Telegram and Discord. His digital asset trading firm distributed only $2 million back to investors from November 2017 to April 2019, and apparently to earlier investors with profits that were in actuality other investors’ money.

Spence played the classic game: drafting falsified performance reports claiming spectacular annual investor returns, covering up trading losses, issuing checks misrepresenting trading profits, providing phony account statements evidencing monthly returns generated in excess of 148% – all the while perched on net losses. All the purported distortions aimed to pool in investor funds earned commodities fraud and wire fraud charges.

Ponzi operations mirror underage drinking in a sense: you can keep on going to the extent that no one bothers to ID check you. With Ponzis, the perfect plot can keep progressing as long as none of your investors bother checking on their few million dollars.

Perhaps Virgil Capital would have stuck around – at least for a while longer – if investors had not decided to inquire into their deposits. This is precisely why Bernie Madoff may have been a victim rather than the cause of the 2008 financial crisis – if the widespread panic had not triggered fearful investors into withdrawing, Madoff’s $65 billion scheme – the largest known to history – may have never quite unraveled.

Business | The Economist

While one can thank the 2008 crash for spurring the end of Madoff’s Ponzi, a dangerous new trend may be taking foothold: Ponzis are flopping while markets are flourishing. The horizons boast fair weather and clear skies – that is until the tornado decides to drop by. In effect, when markets recede, investors are in trouble.

Billion-dollar blagues

A bulk of these billion-dollar cryptocurrency exchanges may ultimately surface as a sort of lost cause similar to playing hide-and-seek with a partner who altogether leaves the designated playing area before the game even starts: you’re disadvantaged from the get-go.

OneCoin founder Ruja Ignatova defrauded $4 billion from investors globally before vanishing. The allegedly traded cryptocurrency never even existed.

OneCoin
OneCoin founder Dr. Ruja Ignatova, the “crypto-queen,” selling adoring audiences on the high profitability of her exchange.

Another relative, BitConnect, promised daily 1% returns before 96% of its impressive $2.6 billion valuation went out the window upon being detected as a Ponzi.

Identifying and Avoiding Crypto-Centric Ponzi Schemes
Beware the year of the Ponzi: more and more Ponzis are masquerading in the mélange of crypto-scams.

A myriad of lesser bite-size schemes runs abound in the cryptocurrency world: at times, owners discontinue coins out of the blue and disappear with all the funds in “rug pulls.” Others have investment contracts that hold your money hostage and prohibit withdrawals. Or, if you need more dramatic effect, the entire cryptocurrency exchange platform – functioning similarly to stock exchanges – may effectively evaporate.

Yet none of these Ponzi progenies quite resemble their parents.

Artificial Intelligence: All about the algorithms

The budding field’s feverishly catchy, ostensibly lucrative, and fairly esoteric mien is beyond eye candy for fraudsters.

“Every time I see the words ‘proprietary algorithms,’ I think fraud,” said Los Angeles-based lawyer Kathy Bazoian Phelps. “Some say they use A.I. bots that generate fixed returns of 20 percent. If it’s so easy to generate A.I. returns, why do they want your money?”

Algorithms are often embedded into crypto-scam strategies. It is no surprise that AI is intermingled with cryptocurrency scandals: the 2020 worldwide crypto-fraud champion says it all.

South Africa’s Mirror Trading International (MTI) presented itself behind the glass wall of passive income: Bitcoin deposits would grow at 10% monthly and 500% annually through an AI-powered foreign exchange trading software.

Operations were designed to not follow conventional Ponzi patterns and were doled out in smaller, bite-size chunks to avoid detection, as fear of suffering a fate similar to that of PlusToken operators who defrauded cryptocurrency worth $3 billion in 2019 lingered.

Nevertheless, the Financial Sector Conduct Authority (FSCA) caught up and filed charges against MTI last December for the falsified statements, unreported losses, and various breaches of securities law uncovered through its investigation.

2020 Major Crypto-Scams
It’s official: Mirror Trading Int’l (MTI)’s $588M is crowned “the biggest of them all.”

Paul Rinfret’s Plandome Partners LLC presents another case of AI fraud, accumulating $19.3 million over a 5-year span. A proprietary algorithm to day-trade S&P 500 futures contracts supposedly generated returns hitting 362% across multiple years, as well as preventing the firm from losing money since 2012.

The rest of the fateful story is quite familiar. Fabricated monthly account statements boasting generous profits plus misrepresented investment strategies covered up the month-after-month net losses. Missing assets instead went towards luxurious vacations and personal expenditures.

Like Madoff, Rinfret’s scheme crumbled in the face of redemption requests amounting to millions of dollars, forcing him to confess to a few investors.

Crafting confidence games through COVID-19

COVID-19 vaccine research is the final field fulfilling the foretelling Ponzi criteria: full of desperation, time-sensitivity, dollars, and lots of curiosity.

The pandemic has effectively thrown the greater society into an inverted reality of sorts. More and more money is poured into the top of this funnel and feeding its by-product: the hyperreal illusion 2021 has found itself grasping for air in.

The beneficiaries are nevertheless crystal-clear: investors and laboratory executives who are well-versed in public relations and cashing in on stock options are easily profiting from the private companies developing COVID-19 vaccines.

Positive press has become a priority for company executives, rather than pharmaceutical efficacy. Vaxart (VXRT), a vaccine developer claiming to receive significant financial support from the U.S. Government’s Operation Warp Speed – a flagship federal initiative aimed to produce COVID-19 vaccines promptly. Such a façade effectively lures in investors, triggering an increase in share prices, and subsequent sizable returns to those who cash in.

Is Vaxart Stock a Buy? | Nasdaq

Wherever there’s big money, there will be big bets. The added crème of time constraints and public desperation makes the decadence all the sweeter and (potentially) gratifying.

Peter Isackson puts the progression into perspective by depicting the global economy as having been reduced to a “system of highly speculative bets whose value depends on consumers’ pain.” Logically then, underlying motives of business initiatives would convert to the all-too-familiar portrait of exploitation: how to individually maximize profits as efficiently as possible. By definition, every bet must have a loser; nevertheless, the prospect of astronomical payoffs renders the risk well worthwhile. With the additional fallback option of short-selling before catastrophe hits, it seems illogical to not bet on a Vaxart.

Consequently, this investor logic spurs dumping resources into PR strategy as opposed to R&D expenditures – which effectively draws in business magnates like magnets. If you’re losing faith that this is at all tangentially related to Ponzi schemes, here is the carrefour where the points meet: the setup is constructed in such a way that company executives can pull out right before the short-term expansion driven by wealthy investors crumbles.

The criteria, once again? Secrecy, insider advantages, unsustainable growth, a load of uncertainty sitting atop a heap of desperation and public attention: what better environment could a Ponzi ask for?

Rolling forwards the debt, in parallel with an undeniable desire

Ponzis persist precisely because people remain married to their money and the market. If your neighbors are getting rich quickly off of some mystifying new fund mixed with algorithms and Bitcoins, a logical assumption would be that you can too.

What’s exogenous to this flawed hypothesis and unaccounted for is something of the halo effect – investment infatuation clouds your judgment analogous to a boy claiming a girl whom he is madly in love with to be an angel.

Law firm Pulman, Cappuccio, Pullen & Benson LLP managing partner Randall Pulman shares a case-in-point: a client once received $1,000 monthly returns from a $100K investment and new investors were pulled in when the money ran short. When Pulman cautioned the client with the concept of a clawback – where the fund owner will one day file for bankruptcy and a trustee will come after him for the money paid in – the client tuned out. Irresistibility must be on par with free food, semi-annual sales, or nicotine (for some).

So long as the American public refuses to divorce from the American dream, the Ponzi proliferation will continue to propagate faithfully, safely, and soundly into the subsequent overlapping generations.

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Tiffany Mikka

Tiffany joined IBR out of her passion for finance and creating magic with words. With a performing arts background, creative heart, entrepreneurial spirit, and her love/hate relationship with accounting, Tiffany seeks to bridge the incompatible – hence her being a creative entrepreneur and potential auditor/actress combo. Creativity is where she dwells, philosophising is her homeostasis, but curiosity is what conceived the cat – a very creative one. She finds amusement in being on set or on ice, composing music she can’t even play, confusing people with Cyrillic and German sixth chords, and prefers to operate on constant system-overload. A (fairly apt) illustration of all the above may be found on www.mikkadeloia.com.

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