SCORES of Zambians have lost life savings in a pyramid scheme that went bust. Mineral pay is just one of many that have duped many people across the globe into investing in the money-making scheme.
Last week, Zambians woke up to find that the money they had invested in Mineral pay could not be accessed because the organization’s website had been disabled and the only message left for depositors was that their accounts had been reset to zero or reduced to zero until further notice. The website has promised to rectify this in the ‘near future’.
More tellingly, even local Whatsapp groups have reported been disbanded and members removed.
But what is a pyramid scheme and why do people fall for this? The following is an excerpt from an online publication on pyramid schemes and how they work and more importantly, why at one stage, people lose out.
A pyramid scheme is a fraudulent investment strategy, deemed illegal in many countries.
According to the Federal Trade Commission, pyramid schemes “promise consumers or investors large profits based primarily on recruiting others to join their program, not based on profits from any real investment or real sale of goods to the public.”
In a pyramid scheme, an initial investor recruits a second investor to work under him. This second investor is required to “invest” a certain sum of money to be paid to the initial investor.
He is also required to recruit another investor under him and another and so on. Each recruit is required to pay an “investment” to the recruiter above him and to recruit more investors. If any recruit can get just ten recruitments under him, he or she will make back his initial investment plus a small profit.
This process continues until there are no longer any recruits to be found and the lower level can no longer support the upper levels. There are some variations on this basic model.
How to tell a pyramid scheme from a real investment
Many people are exposed to get-rich-quick schemes the world over. South Africa, in particular, has seen a lot of such money-making schemes over the past few decades.
The appetite for investment opportunities that promise “high returns” remains high, and anything that can meet this insatiable demand will definitely find buyers.
With a lack of enforcement of regulation, schemes where the potential to make money is deemed very high have evolved. Some are pyramids, and others use goods and services to lure unsuspecting investors. Some sell cosmetics, some sell services, and they are sometimes called “multi-level marketing”.
The marketers of these schemes aggressively defend them as not being pyramid schemes.
Pyramid scheme members at the top benefit the most and those nearer the bottom only benefit after top members have been paid.
New members must be recruited to ensure existing members are paid and this is the main source of income rather than value created from a product or investment. When new members can no longer be recruited fast enough, the scheme inevitably collapses.
It is good to be able to differentiate between an investment and a pyramid scheme. Quick and huge returns are more appealing than the prospect of making long-term returns, but while you may perceive one of these schemes as the shortest route to wealth, they could in fact cost you all your money.
Bigger than normal returns is one way to identify a pyramid scheme. It may offer as much as 5% per day, or 30% per month.
As a general principle, a product that offers returns above 30% a year is abnormal and, therefore, is a pyramid scheme.
The lack of regulation in this space means promoters do as they please when setting expected returns, and there are no legal consequences when the scheme fails and investors lose their money.
You will only be guaranteed a return on any legitimate investment monitored by the Financial Sector Conduct Authority (formerly the Financial Services Board), if it is a fixed income one.
Banks usually do this quite well – their 60-day notice deposits are an example. Government retail bonds also guarantee fixed returns on certain amounts over a certain period.
Other investments such as shares and unit trusts, for example, do not promise any returns when sold correctly by professionals, carry a full risk warning stating that you can lose your investment as the value of such securities depends on the market, and the company’s performance. The risks are fully communicated so you, the investor, can make an informed decision. Steinhoff, African Bank, Aveng, Group Five and Impala Platinum are examples of stocks whose values were significantly reduced over time. But investors always knew the risk of loss of capital as it was communicated.
Pyramid schemes, however, promise unrealistic returns and should be treated with caution.
REQUIRES YOU TO INVITE OTHERS TO JOIN
This is perhaps the common giveaway for a pyramid scheme. Its success depends on new members joining the scheme with new money to keep paying those who joined first. Schemes often ask members to bring three participants, and each new member in the scheme has to focus on bringing new participants.
Once everyone who falls for the scheme has joined, it will eventually collapse as there is no more cash injection. This is why schemes don’t survive forever.
Companies promoting normal investments do not carry such invitations for other people to invest. Instead, as an investor, you will be told the risk of loss and the potential to earn returns, whereas the pyramid scheme pushers conceal the reality of potential losses.
SERVICES AND GOODS ATTACHED TO SCHEMES
These days, as a measure of reducing scepticism around such schemes, promoters usually introduce products or services that go with the scheme, and people get a sense of comfort because they have a holiday package, or some drink that can help reduce weight, to sell. Be cautious if the traits outlined above are reflected in the scheme, regardless of the goods and services attached.
People should continue to invest in long-term capital growth, and avoid being taken for a ride by such unethical schemers.
‘Get rich quick’ scams
- Signs to look out for that it is a “Get Rich Quick scam”:
- It claims to pay out double-digit returns.
- It claims to be an opportunity of a lifetime.
- You can’t understand how it generates money.
- It is not a registered product or a product offered by an authorised financial services provider.
- Returns or profits earned are dependent on recruiting more members to the scheme.
Awareness tips on how not to fall victim to “Get Rich Quick scams”:
- If it sounds too good to be true, it’s most likely a scam.
- Be skeptical of any investment’s insistence that you act “NOW”.
- Be careful of investments that guarantee you high profits with little or no financial risk.
- Exercise due diligence in selecting investments and the people with whom you invest – do your homework before investing your money.
- Consult an unbiased third party – like an unconnected broker or licensed financial advisor before investing.
Tips to spot a Ponzi scheme:
- The promoter promises high returns, which could not be achieved through normal conventional investment opportunities, within a short period.
- In some cases, the promoter will use fake qualifications or references to entice investors, for example, an ‘attorney’ with ‘many years’ experience in the stock market’.
- Often high returns are paid initially and then investors are lured into investing even more money.
- They often promise guaranteed returns –no return is ever guaranteed, all investments carry some risk.
- Promoters are usually quite secretive about the actual business model.
- The promoter becomes unavailable and returns dry up.
- Usually the scheme collapses soon thereafter.