How To Avoid Investment Fraud

Thursday, September 27, 2012, AM | Leave Comment

By now, almost everyone has heard of the Ponzi schemes, one of which was created and developed by the confessed perpetrator Bernard Madoff. Many investors may feel that he deceived only the wealthy and the institutional investors and it does not happen to the individuals.

However, investment fraud comes in many forms and can touch all types of investors. You cannot be 100% safe. You can only minimize the potential and eventual damage that you might receive in your investment finances.

Here are some tips to help you reduce your chances of being financially ruined by investment fraud.

  • Investment strategies should be clear and understandable

    Financial products that are suggested to you should be clear in an easy to understand language. Not only that, you must be able to understand the concept of the strategies and products.

    If you don’t understand it, walk away. The nature of the risks involved can vary widely and should be well understood.

  • Diversification is key

    Limit the amount you invest. Investors often expose themselves to unnecessary risks by concentrating their funds in one or two securities.

    Diversification is one of the most fundamental and enduring investment principles.

  • If the return is too good to be true, it usually is

    One of the red flags in the Madoff affair was that reported performance was too consistently good. Find out if the firm has its reported performance numbers independently audited and the name of the auditor.

    Check to see whether these figures comply with Global Investment Performance Standards. These standards are, generally, a set of ethical principles for calculating and reporting investment results.

  • Be wary of quick returns

    Legitimate investment professionals do not promise sure bets. Legitimate get-rich-quick schemes simply do not exist. Understand clearly any terms by which you can redeem shares or exit the investment.

  • Watch for e-mail solicitations

    The investment scammers are like hunters waiting for ducks to come in the path of their aim. Through the Internet, they have the obvious ways to reach millions of people.

    Unsolicited, but official looking, e-mail messages offering you investment opportunities that sound too good to be true and most probably are.

    Treat information from unknown sources on the Internet with great suspicion.

  • Make sure some kind of regulatory oversight exists

    Fraud may be less prevalent in regulated settings, like mutual funds. Hedge funds are less regulated than mutual funds. Be especially careful of offshore investments.

    Some might be legitimate, but they work under different regulation. It is far more difficult to locate your money overseas, let alone recover it.

  • Ask about independent audits and who performs them

    Investors should ask for audited financial statements of the organization. Take steps to ensure your financial adviser is trustworthy.

  • Assess the integrity and competence of personnel

    Find out who makes investment decisions and who implements the investment strategy. They should be separate people with relevant experience, education, and training.

  • Perform a background check

    The Financial Industry Regulatory Authority (FINRA) allows investors to check the background of securities firms and registered securities representatives it oversees in the U.S.

    If a brokerage firm or broker is not listed, find out why. If they are, make sure their record is clear.

  • Understand the operational risk and infrastructure

    Any investment management operation should have a physical infrastructure for trading and administration.

    It is important that a firm have separate and independent operations. These operations are usually for asset management, trading, and custody to provide checks and balances against fraud.

    Many of the legitimate investment firms adopt the CFA Institute Centre’s Codes, Standards & Guidelines, which outlines their ethical and professional responsibilities.

In a Nutshell
With the meltdown of the market and the extremely bad economy, an increasing number of online and offline investment frauds have been reported by financial news media.

Individual investors have to be very careful and mindful of the fact that they can be a target of such Ponzi scheme.

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