Every time I hear about someone in the investment industry violating their trust, I read about the details of the fraud, and can only be dumbfounded as to how easily avoidable these tragedies are with a little effort. A local case appeared in the news about a broker who stole $5 million from his clients, using the money to live a lavish lifestyle. The clients will probably never see that money again. Most of the time, it takes years of labor and a continuous effort of husbanding assets to build nest eggs as substantial as the one this thief squandered, and now, it's all gone. And yet, there are simple ways to avoid this ever happening to anyone. Remarkably, the investment "vehicle" being promoted by the broker wasn't the stuff of instant riches. All the broker did was promise his clients a 4.00% per annum return for two years, after which, they got their money back, which is not only a modest proposition, it could have easily been matched or exceeded with conventional investments from nationally known entities.
There are a few simple ways to guard against this happening to you.
1) If the investment is not a publicly traded entity, and makes no filing with the Securities and Exchange Commission, that should raise red flags from the beginning. Naturally, there ARE private equity offerings available, but these are generally not offered to the average investor, and a legitimate offering will provide verifiable corroboration of its mission and investment goal. But in most cases, the investor has to do their own homework. The "exclusive" nature of these "private" offerings are often meant to flatter the investor. They internalize offerings like these as a compliment to their sophistication, and it signals to them they're ready for the "big leagues."
2) If the assets are not qualified to be held by a custodian, that is, the firm that sends you your statements and prepares your 1099 for tax reporting purposes, be extra careful. Because that usually means the investment is not traded on an exchange, and price discovery is non-existent. A firm located in the same town as this criminal solved this dilemma by acting as their own in-house custodian, offering proprietary real estate based investments. So even as the real estate market melted down, the "value" of their investment never wavered, as it wasn't marked to market. Clients actually believed it was worth what was printed on the statement as a value, and the lack of price movement was a tribute to their judgment as the markets cratered. Until the dividends were suspended.
3) Use a measure of common sense. The investment has to be plausible. As an example, I was pitched a private investment to raise capital for homebuilders in the Hamptons. I was promised a 10% commission on all sales, which is quite an incentive. Unfortunately, since I am a "fee only" adviser, I'm not even entitled to a 12(b)1 fee, and I had to decline this most generous opportunity. Another reason to decline is that I know the East End of Long Island fairly well, and I've never really heard of any builders starved for investment capital when there are dozens of banks ready, willing and able to shovel millions in loans at them. So why would they need me to raise money for them?
Not all private placements are bad, and I've had a few that worked out well, including a couple involving Manhattan hotels that rebounded nicely after the crash, as occupancy grew and supply flatlined, when funding for new hotels dried up during the crisis. That is what I mean by plausibility. It was an idea I could believe in, and proximity to New York certainly helped my judgment.
Using quarterly reports dedicated to the Manhattan Hospitality market certainly helped as well. I could verify occupancy trends, revenue growth and new hotels being submitted to the NY City Planning Commission to check room growth.
“I know that he used some of the money to pay for the down payment of a home in Syosset – a beautiful home with a tennis court and a pool – so he used some of the money for that. I think he just basically said whatever he needed to say to people to get them to invest with him,” the District Attorney said.