Glossary of Investment Terms - Ponzi Scheme |
Ponzi
Scheme : Ponzi scheme is the
name of a fraudulent operation designed
to take money from new "investors"
and give it to previous "investors"
instead of using it to create an actual
profit. Ponzi schemes are usually cloaked
by seemingly legitimate investment operations
with high returns for those who buy into
the program. These high short-term returns
are usually used to lure new investors into
the program and thereby creating a greater
flow of money to pay out to subsequent investors.
In a Ponzi scheme the earnings are less
than the profits, meaning the program will
inevitably collapse after a period of time.
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Ponzi schemes
can sometimes last a long time since the
system does not depend entirely on new investors.
Instead, individuals are usually encouraged
to reinvest their money. By keeping the
investments down to a relatively small group
of people, Ponzi schemes can develop for
many years before being detected. But, since
these schemes require a continuous flow
of new people and new money, they are eventually
detected by either investors or authorities.
Ponzi schemes are named after Charles Ponzi
who emigrated to the US
from Italy in 1903. At the time the Post
Office was using international reply coupons
for intercontinental mail. Ponzi quickly
learned to manipulate the coupon system
for a small profit and began touting it
as an investment opportunity to others.
He realized the potential for massive personal
profits and began promising huge returns.
Although he still managed a few reply coupons,
Ponzi learned that he could pay out high
returns to both himself and his return investors
with the money from new investors. Ponzi
made millions but raised suspicion with
his quick returns on investment. After some
investigation, the government found that
he was not making any real profits and the
system collapsed.
Also called : Ponzis, Investment
Swindle, Investment Scam, or Pyramid Schemes.
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