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Swinders in the Mist

June 10, 2009 2 comments

It'ss a jungle out there...

It's a jungle out there...

Do you remember the days in the old school yard? Remember how some kids couldn’t take any loss of face? Investors who lost their fortunes in the Madoff Scandal (the guy who made off with over $50 billion from his Ponzi scheme)  are now hoping to claim the appreciated amount of money instead of the initially invested amount:

The customers say that, by law, they should be given credit for the full value of the securities shown on the last account statements they received before Mr. Madoff’s arrest in mid-December, even though they were bogus and none of the trades were ever made. According to court filings, those account balances add up to more than $64 billion.

“We are talking about some of the saddest cases imaginable,” he said. “These are people in their 70s and 80s who cannot work and have no possible source of income to replace the money” lost in the fraud.

Let’s not forget that 70 and 80 year olds are adults too, and are as responsible as anyone else for their mistakes or for losses made with what had to be surplus funds to invest with Madoff. We’re not talking about orphans or destitute old  bums living out of cardboard boxes in alleyways. They never had any money to invest in the first place.

It’s like a private school sports team that can’t accept defeat. Investors are stamping their feet, complaining that the rules weren’t fair and that they ought to get their money back. Had it been the opposite scenario, had these investors made a wrongful profit, you could be assured that they would not let go of a cent.

Frankly, these investors with Madoff don’t deserve any media attention or extra compensation. Yes, they were victims of fraud and yes, they are rightly sore about it all, but Madoff was not guaranteeing the investment money (he was not posing as a Government backed financial institution, such as a bank). There was no legislation protecting investors from making a loss. They took a risk and they lost. It’s the same for anyone who gambles and loses – why should they have it any different?

The argument that receipts of the inflated sum at investment should be used to gain a tax advantage is problematic, because it encourages Ponzi style schemes (if you win, hooray, if you lose, it’s a tax break). This was not a real investment, and it should not be treated as though it ever was one. When people gave their money to Madoff, who promised to bank it for them, they accepted that they may never see the money again. This is the reason why you should diversify your investments and not trust any one vehicle, or if you absolutely positively don’t want to lose the money, buy gold and put it in a vault or something.

What this illustrates is the mentality of US investors. They are like two-year-olds who can’t come to terms with the negative meaning of the world “risk”. But of course, in this financial crisis, there must be no losers. Everybody has to be bailed.

Analyzing Risk for the Average Joe

March 29, 2009 Leave a comment

Modern Day Swindler in a Suit

Modern Day Swindler in a Suit

Do it yourself, because no one else will do it yourself.

Risk analysis, when it comes to finances, can be confusing and it is no wonder that whole industries and academic specialties have evolved around it. It has its own terminology, making it even more unreachable to the average person. However, to avoid making the mistake of a lifetime (such as when you buy a house), it is extremely important to manage your risk yourself.

This article should not be taken as anything but tongue-in-cheek. Lawyers will tell you that you should get professional advice when it’s needed. Do that. This is not professional advice, even in the slightest.

We assume that you will be buying a house, but all investments need to stand up to the same general scrutiny.

Crap and Clay

The first thing needed to assess risk reliably is knowing the truth. The problem is, there is so little of it around, as everybody is out to make his own fortune and keeps all the useful stuff to himself. Most people rely on bluff and lies to achieve advantage. Some people are very good liars and most are less honest than you. The secret to working fact out from fiction is humility. Know your limitations and you will come some way to knowing theirs!

  • Don’t believe anything you hear and only half of what you read. Whatever a person tells you that is not on paper is complete rubbish until proven otherwise. This is an eternal truth that nobody seems to remember. Actually, you’re better off believing less than half of what you read. The sad thing is, most paper has so much crap written on it that it can’t even be used as toilet paper.
  • Don’t trust people from a culture you don’t understand. No, this does not mean racism (although it exists, for some reason), but knowing the limitations of your insight. In your own culture you will have a reasonable understanding of the kinds of people that are typical swindlers, the usual lies people tell and so on, but other cultures will have their own set of tricks, coated in smiles and politeness. Instead, get to know the culture beforehand, or at least assume the other person is a lying, scheming scoundrel and then be pleasantly surprised. Industries have their own “culture” too – be warned.
  • Corroborate any factual claims. When reading anything, separate fact from opinion. When reading product information (such as for a home loan, or a brochure advertising an investment strategy), underline what you would consider factual, and ignore the rest. Then go and find the same information by another route, such as at a competing institution or the Internet. If you don’t believe me, then go check yourself!
  • What’s the catch? Everything has a catch. If you there is no catch, it means you haven’t looked hard enough.
  • Get some kind of independent opinion. Get a market valuation of the property if you can afford it, or find out how professional investors find out what things are really worth. Don’t trust anything that comes for free and be careful what you pay for. If you don’t think it’s worth doing, then the property you are considering isn’t worth buying. Don’t forget that most people just fly by the seat of their pants and in many cases nobody does proper “due diligence”, even the investment companies with the glossy brochures. In most situations (not just investing), everybody assumes that everybody else checked. That’s why things go wrong. When you read an appraisal, again, underline the facts and discard opinion.
  • The secret of a Ponzi Scheme is getting out of it before everyone else does. Better still, recognize ponzi schemes (and schemers) by reading about them so that you don’t get involved in the first place.

Modern Day Scientific Fraud

Modern Day Scientific Fraud

The Money

Secondly, work out how much you can gain, how much you can lose and how much you can afford to lose.

  • Family budgets are overrated. Sure, go ahead and do one, but chances are you already know what you need to know. It’s easier just to look at your bank statements. If you are saving a hundred or two hundred dollars a fortnight, then that’s where you’re at financially. If you say to yourself “I’ll give up smoking and save $50 per week” you are kidding yourself. Sitting down and going over earnings and spendings will show up a few embarrassing truths, but expecting yourself or others to make major lifestyle changes to save money is just not going to happen, at least not easily. Try to save money, but assume that you will fail when doing calculations. The cost of making financial sacrifices can be greater than it’s worth. Being too much of a Scrooge will ruin your marriage.
  • Assume that your income will not rise. If you make purchases on projected income (even if it’s part of a contract), you are taking an unreasonable risk. You might be wise to make contingency plans in case your current income falls, even to zero. Everybody is an optimist and it’s always someone else who has the accident and ends up disabled. Sometimes all you will be left with is first dibs on parking spaces if you don’t plan ahead.
  • Assume interest rates will rise. Take the record highest interest rate for your country for the last century (something like 20%) and add a couple of percent. That’s how much interest you have to be able to pay, if you wish to take out a loan. When banks raise interest rates, they are going in for the kill, at which time they have no intention of letting you off the hook, even for one missed payment. If you think you can trust your bank manager, be assured, they will have replaced him in time to fleece you. Baaaaaa!
  • Assume your asset won’t appreciate. It probably will, but it might not. Things which can cause this to happen include closure of nearby industries, discovery of toxins in the soil, some kind of disaster not covered by insurers, war, etc. Therefore, think carefully about these kinds of bad luck beforehand. Depressing, isn’t it? The good news is that most things with a real meaning (such as a roof over your head) keep their value over time. If the rent that is collected on a house pays a food bill, it probably will keep paying a food bill a generation or two from now.
  • Never take risks on top of risks. If you borrow to buy a house, then use the house as collateral against more borrowings, you are crazy. There is no limit to the imagination when it comes to these things, but watch out for them. People do this more often than they care to admit. Even banks do it, as it happens. But they are stinking, scheming, lying, shifty and crazy.

At this point, calculate for a given purchase (assuming a house), how much you can afford, given your existing budget, your existing income and the worst imaginable interest rates. It has to be said that you do need to look at all the extra costs associated with the asset beforehand too, such as land taxes, council rates, insurance, cost of maintenance, repainting, repairs, etc. It’s probably a lot more than you anticipated.

Then calculate how much you can earn from the investment. Houses bring rental income. Farmland needs to be worked and this is a big undertaking, but fields of grass can be let out to other farmers. Other investments such as shares earn very little for the amount of money put in them and, contrary to popular belief, they are not “easy” and in most cases are the same as betting on horses. Most people believe that the money in shares is made by buying low and selling high. The problem with this assumption is that there is nothing behind it apart from “market sentiment”. Unless you have insider information, you are ultimately going to be one of the people who loses his money so that some faceless Madoff-type gets rich. Of course before that you will get a few winnings yourself, just like at the casino, until you lose sight of the shore of sanity and one day go in all-or-nothing.

Calculate how much you can lose. Houses can burn down (and the insurer will never give you back the real cost of rebuilding), land can be “compulsorily acquired” to build a highway, and companies on the stock exchange can evaporate overnight. With houses, having people inside means that someone other than yourself stands to lose by burning it down, plus you can put in safety equipment and do other things to reduce the risk. It’s a very rare event. With land, a bit of research and getting to know people at the local council can make it a very safe way of investing. With shares, there is basically no way to assure that you won’t be left totally broke.

Make plans to manage the risk. Do not let the total destruction of your main investment be the undoing of you. Diversification is generally a stupid thing to do because you end up putting money all over the place and having no idea of the risks you are taking. Better to do one thing and do it well. Better still to do two things and do them well. Then you are actively managing your risk. It can be as simple as having two houses from which you draw rent instead of one, as long as they are in different parts of town, or different towns.

Making the Decision

Before making any decision on finances, a few things need to be satisfied:

  • You need to be sure of how much you don’t know. If it’s too much, then delay your decision.
  • The investment has to be better than shoving money into a mattress. In some cases, depositing money in a bank account is worse than shoving it in the mattress.
  • You need to be ready to make the maximum estimated loss and have a plan in case this happens (and it can’t be suicide).
  • Your decision has to be morally upright. Usury is usury. Theft is theft. Cheating is cheating. Wrong is wrong, so don’t do it.
  • You must not rely on tax laws for the viability of your investment. The tax laws change and, just like interest rates, are a trap. Just take Superannuation as an example. The right path is often the most difficult one.

After all of this, it can become quite clear that investment is not easy. Most people work extremely hard to get very little out of life, and there is a small percentage at the top who get rich without appearing to do any work at all. They will probably all go to Hell when they die, and as such their life was not worth living. There is a group in the middle though, which takes what is seen as the conservative path:

Be humble, earn an honest living doing honest work, save your money, invest in real things that people need, have realistic expectations and prepare for the worst.


Pretending They Don’t Exist

March 22, 2009 Leave a comment

QuackGovernment leaders feign outrage at taxpayer money being given to bankers in the form of bonuses. They struck back by threatening to tax those bonuses in what appears as an all-out assault on the finance industry. The Times raises fears that the banking industry is under threat as a result:

Proposals that could lead to Wall Street bonuses being taxed at 100 per cent could result in “the end of the banks as we know them now”, a leading financier warned yesterday.

Even if it’s 70%, it will still make banking rather unattractive to a lot of people as a career choice in the USA. All this of course is no more than populism on the part of Government, which as usual is making sugar coated legislation with a bitter aftertaste. A tax such as this will sink AIG, which has only just been bailed out. The idea of thwarting bonuses sounds good, but it will trigger a brain drain in the US financial sector, guaranteeing the taxpayer to be left with a useless, expensive corpse on its hands.

Bigger and worse things are happening which remain unchecked.

New money is being issued by the Federal Reserve. This is a more serious kind of theft which affects every honest person. The resulting inflation will be unstoppable and the Fed knows it. An anonymous commenter states:

Will other countries threaten violent force? Will they try to acquire U.S. claims to oil reserves in the middle east and Latin America, and to other “indirect” U.S. claims to commodities–originating from U.S. based companies?

The facts are pretty compelling that the U.S. will have to default on its debt. When that time comes, how will the rest of the world react?

These are very thought provoking questions indeed. That there will be physical (military) ramifications to financial incongruities is a given, especially if the current approach by central banks and governments is pursued. In the medium to long term, the public cannot possibly benefit from anything which has been done by both central banks and governments. All of this spells disaster for ordinary people.

So who are the beneficiaries of all of this? Where did all the money go?

The US Economy should be declared a crime scene.

Could it be people, as yet unidentified, who have been quietly exploiting the various tiers of the economic system to their own advantage? Theirs is an eerie silence. I have no doubt there are many individuals who have access to sensitive (and incredibly advantageous) trading information at stock exchanges. I also have no doubt that people who have sensitive economic and policy data (in draft form) at their fingertips make “good use” of it. They will have surely succumbed to the temptation of making untold profits by knowing the outcome of trades before they take place. The former Chairman of NASDAQ is but a snowflake on the tip of the iceberg of America’s economic corruption. His scheme was simple and easily blown out of the water, but the economic crisis (and the missing money) is an order of magnitude larger than Madoff’s billions.

If you had anything resembling a live feed to the names of traders, quantities traded, buy points, sell points, basically raw, unprocessed stock market data, what would you do with it? Nothing? The point is that, because so much in the economy is now electronic, evidence is easily erased (or planted) and communications are easily intercepted. I don’t know if trading data is being leaked on an ongoing basis, but I would be surprised if it wasn’t. I don’t know if people other than scrupulously honest law enforcement officers listen in on telephone conversations, business meetings, and so on, but I would be surprised if they didn’t. Heck, you can hardly find an honest person in any walk of life as it is!

So instead of printing new money and shooting easy targets (managers working for finance companies), governments should be digging up trading records, exposing insider traders (and all the other fraudsters and swindlers) and treating system problems which allow for opaque business and accounting practices.