Recent history is marked by numerous financial frauds. Greedy men have always been looking for innovative ways of skimming other people’s cream. This, combined to the lust of a mob always wanting to be part of the next big financial success, makes up for some of the most wicked frauds of all times. Here is an unexhaustive list of the most known ones.

Madoff’s Ponzi Scheme

The wealth management fund of Bernie Madoff was the largest Ponzi Scheme in human history. A Ponzi scheme is a fraudulent investment operation where a part of the investments of the next investors is used to pay the returns of the previous investors. It enables the scheme to offer abnormally high returns in a quite consistent manner until the scheme is discovered. Thus, it is not based on any economic welfare. The Madoff scheme delivered lower returns than usual Ponzi schemes. The average but consistent return reached 10% per year, which was relatively coherent with the market returns at that time, and was therefore justifiable. The size of the fraud amounted to $64.8 billion and was discovered only in 2008, when things started to go south in the stock market. Bernie was sentenced to 150 years of jail and fined for $170 billion.

Enron Scandal

Another way of making some free money on the stock market was put into practice by the management team of Enron. Enron was simply an energy company like many others, until the day its accountants started to become creative and used a special purposes entity to store a maximum of debt, out of the company’s balance sheet. They then used this off-balance sheet debt to create value for the shareholders. Since the returns were high and the official numbers seemed to match, it attracted even more investors, which led to huge rises in the stock price until its collapse. The Enron bankruptcy is one of the biggest corporate bankruptcies in US history, along with other fraudulent companies’ bankruptcies. It is also one of the greatest audit failures of all times.

The 2 following ones are not issued from a story, because they were repeated numerous times by different individuals.

Pump and Dump

The title of this paragraph reveals a lot about the strategy of the scheme. The principle is relatively simple. The initiator of the scheme, who holds a position in the company’s stock (usually penny stocks), starts advertising and recommending the stock to investors. This creates an artificial rise of the stock price and once the price has risen sufficiently, the initiator dumps the stock and pockets the profit. Note that small/micro market caps are essential to the scheme, since their cheap price and low float (low amount of traded stocks) allow for an easy manipulation. This is what they do in the beginning of the movie “The Wolf of Wall Street”.

Front running

The expression is also revealing in this case, since a broker (the person who places the order on the stock market) runs in front of his investor. Concretely, it means that the broker, knowing his investor wants to buy a huge number of shares, places an order through his personal account before placing his investor’s order, to profit from the price increase that will result from the investor’s order.

Many other fraudulent financial schemes exist, and many more will probably be discovered in the near future. Two advices are to be remembered in order to avoid being a victim of these schemes. Firstly, only invest in financial products you fully understand. There exist many online resources to help you get a better grasp of what is what. Secondly, if it looks too good, there is probably something wrong in the fundamentals. And above all, don’t let your greed guide your reason!

Charles Emsens