The financial crisis’s “Ponzi schemes” blowing effect

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(Photo:Ponzi aka "Charles Bianchi" under arrest circa 1910)

The last financial crisis has had a stunning side effect in uncovering "Ponzi schemes".

In fact, in order to keep a "ponzi scheme" going, the investment "fraudster" needs only one thing: liquidity. As long as the amounts subscribed into the fund exceed the amounts withdrawn, the credulous investors will probably feel confident that they made a good investment decision. The liquidity crisis engendered by the financial crisis had the effect of destabilizing the good operation of some Ponzi schemes especially the ones who were offering short liquidity terms.

A search on the SEC website for the word "Ponzi" returned 294 litigation matches for the period between September 1^st 2008 and June 30^th 2010 compared to 144 matches for the preceding 20 months period. The matches do not always represent separate cases but the difference between the two numbers unquestionably demonstrates the positive effect of a liquidity crisis in blowing up "Ponzi schemes".

The last complaint of the SEC against an alleged ponzi schemer was filed on June 17^th 2010 against Daniel Spitzer and the investment companies and funds he controlled (click here to read the full text of the complaint). It is worth noting that once again the victims are individual US citizens invested in an LP vehicle with no third party administration. The complaint does not explain why the different entities involved in managing the funds were not registered as investment advisers with the SEC despite the fact that they were supposedly managing around $100ml for 400 investors.

We are now 20 months after the collapse of Lehman Brothers which triggered the huge run to the bank experienced by so many "liquid" funds; it is fair to assume that most of the pure "historical Ponzi schemes" have now been uncovered. However, investors beware not to become too complaisant as fraudsters are always waiting for the right moment to catch you off-guard.