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Tag Archives: Ponzi Schemes

Double Your Money – Part Twenty Nine

Ivar Kreuger (1880 – 1932)

When things get a bit sticky for businessmen, there is a tremendous temptation to cook the books in an attempt to trade out of their difficulties. The chef par excellence or, as J K Galbraith described him, “the Leonardo of larcenists”, was Swedish born businessman, Ivar Kreuger, who monopolised at first the Swedish safety match business and then, at his height, controlled about 75% of the world’s match production and retail business. These days safety matches are hardly used but in the early part of the 20th century they were essential for lighting lamps, stoves and the like as well as igniting the almost ubiquitous cigarettes and other smoking materials.

Although an engineer by trade and co-founding Kreuger & Toll Byggnads AB, which specialised in developing and promoting new building techniques, in 1911 he turned his attention to his family’s ailing match factories. Rolling them up into his own firm and introducing cost and production efficiencies as well as controlling the supply of the natural resources needed to manufacture them, Kreuger soon cornered the market. He improved the quality of the matches and sold them at a lower price than his competitors who had no option but to go to him, cap in hand, to sell their businesses to them.

But he did not stop there – world domination was his aim. To fund his ambitious expansion plans, Kreuger raised money through issuing shares and bonds. With a sizeable war chest at his disposal and governments on their knees trying to fund reconstruction work after the ravages of the First World War, Kreuger was able to offer loans. In return he demanded that they granted him a monopoly in the production and sale of matches in their countries. At the height of his power, Kreuger owned some 200 companies with interests in such diverse industries as forestry in Northern Sweden, where he had a monopoly, mines, telephone companies, ball-bearing manufacturers and banks such as Deutsche Unionsbank and Union de Banques a Paris.

The more monopolies he acquired, the more attractive his company became to investors. Kreuger began to live an extravagant lifestyle, buying art, houses and attracting lovers by the score. Everything in the garden seemed rosy but underneath the surface he was stoking up enormous problems. The continuous programme of expansion was designed to deflect attention from the true state of his finances. Promising high dividends to make his companies more attractive, the profits generated from these businesses were insufficient to meet his obligations, particularly as he was often forced to pay high levels of interest to access funds.

The answer to these problems, of course, was to indulge in a spot of financial engineering. He would sell off the shares of every company he acquired to inflate the balance sheet whilst, at the same time, exaggerating the profitability of his companies to secure more credit. But to secure the level of credit he needed and to offset the demands of dividend payments and maturing debt, he needed more and more money. In despair, Kreuger turned to highly risky speculative deals and when these failed, even forged millions in Italian bonds which his obliging accountants included in the tally of his company’s assets.

Although Kreuger survived the Wall Street crash, what did for him was the ensuing credit squeeze. Deprived of the credit needed to fund his activities and maintain investor confidence, the only way out for Kreuger was to shoot himself. After his death, the authorities found two holes – one in his chest from the bullet with which he killed himself and the other, some $250 million, in his company’s accounts.

Although his latter-day activities smacked of a Ponzi sceme, Krueger did have a genuine business underpinning it all. He just got greedy.

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Double Your Money – Part Twenty Three

James Paul Lewis Junior

We have looked at a number of Ponzi and Pyramid selling schemes over this series and have noted that there is an inherent design flaw in them. Ponzi schemes are totally reliant upon new members joining the scheme to pay the dividends promised to the earlier investors while pyramid schemes financially reward investors for recruiting new members. However, once the supply of new investors dries up, the whole edifice comes tumbling down.

The remarkable feature of Lewis’ Ponzi scheme is that it defied gravity for so long. It is estimated that it lasted for around 20 years, during which time Lewis had collected around $800 million from his investors – Lewis was one of them. His company was called Financial Advisory Consultants and was based in Lake Forest in Orange County, California. Many of his 5,200 clients were recruited by word of mouth, many through fellow churchgoers and church-based organisations. Initially, the minimum investment was $25,000 but as the fund began to start creaking, this was raised to $100,000.

Lewis span a good story, claiming that one of his funds delivered annual returns of 40% while the other generated a more modest 20%. He was able to sustain such high levels of return, he claimed, by leasing medical equipment, financing purchases of medical insurance, making commercial loans and buying and selling distressed businesses. To add a bit of glitz to the scam, Lewis claimed that his clients included a number of professional athletes and at least one movie star.

In reality, however, Lewis was paying the high levels of dividends from the investments of the newer recruits as well as using some of the funds to finance a lavish lifestyle. Rather like George Best, he spent a lot of money on booze, birds and fast cars. The rest he just squandered. But the money kept coming in, many of his investors putting their life savings into a fund that promised returns that seemed too good to be true. Of course, they were.

The writing was on the wall in 2003 when Lewis was unable to meet dividend payments. Investors became suspicious but he placated them and bought some time by claiming that the Department of Homeland Security had frozen the funds. This, naturally, was bunkum and when there was still no sign of the promised dividends, the FBI were invited to investigate. Lewis did then what any self-respecting fraudster does when the net tightens around him – he fled.

An arrest warrant was issued on January 14th 2004 and after a narrow escape in Tallahassee, Lewis was arrested in Houston. The investigations showed the extent of Lewis’ scam. Instead of the $814 million in clients’ assets he was supposed to have had, his company’s bank accounts held just $2.3m. Even at the time that his funds were allegedly frozen, Lewis helped himself to $3million and amongst the assets the FBI seized were five cars including two Mercedes and a BMW. A letter dating to 2001 showed that Lewis had speculated on high-risk currency trading – naturally, Lewis lost $6.5 million on that occasion.

On trial in 2006 – Lewis received 30 years and was ordered to repay $156 million – Judge Carney called the scheme a “crime against humanity” because many of its victims were elderly and had lost their life savings. Only $11 million was ever recovered.

Double Your Money

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Sarah Howe

Whether it is because I have spent my career in the financial services sector or not, I have always been fascinated by scams, promising investors astonishing returns. My rule of thumb has always been, if it is too good to be true, it generally is. In order to dispel the theory that the perpetrators of egregious get-rich-quick scammery are exclusively male, I want to bring to your attention the curious case of Sarah Howe.

Born in New England around 1826, Sarah moved to Nashville where she married and found herself a widow at the tender age of 24. Moving back to the Boston area she held a number of jobs, none of which she was ostensibly qualified for, including working as a clairvoyant, a skill, if possessed, which would be enormously helpful for regulating someone’s financial affairs. Her light bulb moment came in April 1879 when she devised the Ladies’ Deposit, a bank deposit masquerading as a charitable organisation, offering a safe home for funds belonging to women and to be exclusive to the female sex.

Investors were promised the astonishing return of 8% interest a month, allowing an investor to double their money in just nine months, and not unsurprisingly she was inundated by deposits from single and wealthy females. At its height the Deposit held funds of over half a million dollars, deposited by over 1,200 Bostonian women. Members had to be referred to the scheme by other members – a case of the sisterhood standing together – their initial deposit was a small one and under the rules of the scheme they were only able to withdraw their interest earnings. What this meant was Howe was able to use the principal deposited to fund the monthly interest payments, inuring her from the possibility of a run of large capital withdrawals, although, according to her, the reason was to prevent them wasting their money on fripperies. A telling commentary on her attitude to her investors.

This Ponzi scheme before Ponzi soon attracted the attention of the press. After all, it wasn’t done for women folk to have access to a money-making scheme which sensible chaps were precluded from. Sarah did nothing to hide her new found wealth – she bought a $50,000 mansion at no 2 East Brookline Street with a $20,000 down payment in cash. Miss Old Eight Percent as she was known was investigated by the Boston Daily Advertiser in September 1880. The paper claimed that Howe had no way in which it could pay the returns advertised – in effect, declaring the scheme a scam – which prompted a demand from investors for their money back.

Howe decided to meet all demands, paying out $150,000 in interest and $90,000 in principal. But, inevitably, she could not hold the scheme together and when the monthly interest payments could not be made, the Ladies’ Deposit became insolvent with some 800 investors losing upwards of $300,000.

The Boston authorities arrested Howe and so depleted were her finances that she couldn’t raise the $500 bail. Charged with four counts of fraud she spent three years in jail. But the enterprising Howe wasn’t done yet. On her release she set up an identical scheme, although this one offered a more modest 7% per month interest payment. Surprisingly, she raised $50,000 from the gullible, before scarpering, never to be heard of again.