Ponzi schemes are fraudulent investment techniques used to cheat people by promising high returns in a very short period. These schemes work by providing returns to previous investors through the investments received from new investors. Thus, it is a vicious circle where money is borrowed from one investor with the promise of a future return and is paid to another investor who had been previously promised a return.
These schemes may work for a certain amount of time initially. However, in some time, the fraudulent methods used to finance this scheme come to light, and people who have invested in them end up losing money.
Put in simpler terms, Ponzi schemes leads to a system of endless borrowing, which is not a sustainable setup and is like a stack of cards.
The scheme was named after Charles Ponzi, who had committed fraud in the 1920s. He was an Italian who came to Boston and conducted Ponzi borrowings to fund his company.
The idea came to Ponzi through International Reply Coupons (IRC) which were sent along with a posted letter to the receiver of the letter. Their purpose was to allow the receiver to exchange the IRC with their local postage stamps that would then be used to post a reply. However, the cost of the IRC was equal to the cost of the stamp in the country where it was bought. Thus, if the prices of stamps in both countries were different, the IRC could be exchanged for local stamps in the recipient’s country with no additional cost.
Ponzi, having noticed the loophole in the IRC setup, decided to exploit this arbitrage opportunity. When he approached banks, they did not issue him the required funds to conduct this operation. Thus, he decided to raise money from the public by promising them future returns. Thus, the idea of a Ponzi scheme was conceived.
However, Ponzi could not figure out how to convert the IRCs into cash. Therefore, his entire operation was solely dependent on the incoming of new investors. The scheme raised many concerns across the globe, and it eventually collapsed as media reports started to circulate about the suspicious nature of the program.
The most important factor that a Ponzi scheme exploits is the investor’s confidence in the scheme. Most Ponzi schemes involve robust returns in the beginning. Thus, if an investor wishes to withdraw money, then the scammer would ensure that the same is done quickly, so that the investor’s trust can be gained.
However, eventually, when there are no new investors to fall back on, the scheme collapses. If many investors demand their money back at the same time, or if the faith in the scheme is lost, then it becomes very easy for such schemes to fall apart.
Such scams can cause losses of high magnitude in the economy as a large chunk of money is withdrawn out of circulation.
Pyramid scheme and Ponzi scheme may appear similar but are quite different. In a pyramid scheme, an initial schemer must bring additional schemers, who would, in turn, bring more schemers. This continues for all the members.
Sometimes companies offer a product to be sold under the scheme. The new investor hired must complete a certain number of sales to earn from the scheme. The revenue generated from these schemes is passed onto the individuals at a higher level of the organisation.
The major difference between Ponzi schemes and Pyramid schemes is that the latter is often used as a method to generate sales, and is difficult to be established as a fraudulent means of generating revenue. Thus, pyramid schemes are still seen across various well-known companies and are used as a marketing strategy.
Bernie Madoff started the most famous Ponzi scheme. He ran this scheme for almost two decades without anyone finding out about it. His investors suffered losses of about $50 billion.
The setup run by Madoff was a basic Ponzi scheme that involved taking money from one investor and giving it to another. He would ask investors to deposit money, which he would transfer to his own account.
He made vague claims about his company’s investments and revenue-generating operations. However, all the returns paid to his investors came from new investors only. Thus, eventually, his scam was busted in 2008, after almost 20 years of him running this operation. This happened when many investors wanted to liquidate their investments. Madoff was not able to provide enough money to all the investors, thus, his Ponzi scheme came to an end.
What is Online Banking? Online banking is a process of undertaking banking transactions via the internet; hence it is also known as internet banking or net banking or web banking or digital banking. Through the electronic payments system, users are enabled to access and perform a wide range of financial and non-financial transactions without the need to visit the financial institution's branch. GOOD READ: Australian Banking Space Amidst Virus-Induced Volatility; Digitalisation Turning Over a New Leaf What is the Significance of Online Banking Viz-a-Viz Traditional Banking? Online banking offers most of the services which are traditionally offered at the local branch. Users can check account details, access fund transfer and undertake tax payments. Apart from the essential services, users can also avail PPF and other insurance-related facilities, credit card and other such payment services, government schemes, etc. All these services are available on internet banking outside the regular banking hours, which is why online banking seems to be most convenient for the users. Net banking is considered more comfortable and often less expensive as well. Most of the brick-and-mortar banks now offer online services. Besides, the online-only banks or Neobanks are also growing in number and popularity because of the increase in demand. Moreover, for any user, it is essential to understand if the net banking experience is right for the needs and specifications. ALSO READ: Banking And Fintech Collaboration: Does The Road Less Travelled Hold Potential? How Does Online Banking Work? Online banking can be undertaken via: Accessing the official website of the particular bank on desktop/ computer or smartphone/ tablet Downloading the official mobile application of the bank like any other Android app or iOS app Unlike traditional banking, users can avail online banking services as per their convenience. There is no need to visit the bank's branch physically. With the fast-moving life, online banking has turned out to be time saving as it can be done from the home, office or on the go - anywhere and anytime. Below are some key steps involved in leveraging online banking benefits: To begin the services, the bank user needs to go on the bank website or download the mobile app. Users need to register themselves on the website or the application using the unique id and password. Once the account is created, users can start accessing all the services it offers. Banking services offered online may vary from bank to bank. Most banks provide the necessary services such as fund transfer, bill payments and viewing account details. Some banks also offer the customers to apply for credit card and avail insurance investment services which they have. Customers can also check the account balance without even logging in. Applying for a loan or making the loan payment can also be done through online banking. What are the Benefits of Online Banking? With the substantial growth of internet, everything has shifted to the electronic version. Just like one can shop online or trade online, users can bank online. People have access to various electronic gadgets such as laptops, phones, iPads, which make the banking experience one click away to conduct financial transactions. Below are some of the key advantages associated with digital banking: The most significant advantage of net banking is - convenience. A lot many services can be availed anywhere, anytime, instead of going to the bank physically. Online banking can also be done on holidays, which is something impossible in case of traditional banking. Users can make a transaction without going to the bank counter. No need to fill the forms to deposit and withdraw money. No need to abide by the working hours of the bank or worry about the weekend. Through online banking, the bank account and relative services are accessible 24x7. Users only need the electronic device, internet connectivity and account details to access the services. Banks also share the transaction summary and spending overview onlind. Users can understand where and how much money they have spent. It's easier to track the money trail and summarise the funds that come to your account and funds you are spending category wise. The transactions are immediately updated and reflected, therefore making the experience very fast. Through net banking, users can also add multiple accounts of the same bank and keep track of them all simultaneously. Bill payments can also be made online, which saves a lot of time for the users to go to individual entities to make the payments. Users can save on heavy penalties for not paying bills on time. With net banking, credit card bills can be paid on just one click. The user-friendly experience makes net banking very painless and un-challenging to use. Most banks have advanced encryption systems and robust cybersecurity in place, which makes online banking very safe to use. What are the Risks Involved in Online Banking? Online banking is not full-fledged banking; hence there are limitations with the services it provides. Especially for the first-time online banking customers, the systems may present a few challenges, which is why some people prefer transactions with the help of branch officers. The baby boomer generation is not very technology friendly, hence they find net banking challenging. Although most of the banks have robust banking security in place, they still face cybercrimes such as hacking and ransomware. Additionally, online banking is dependent on internet connectivity. Therefore, users who have the internet are only able to access the net banking. Low connectivity issues also make it challenging to conduct banking transactions successfully. Because of the less awareness, users also fall prey to the online financial fraud and identity theft. While accessing net banking, banks advise consumers to use their data plan instead of using public Wi-Fi networks to prevent unauthorized access and further damage. Besides, additional security measures are important to be considered while relying on digital banking. ALSO READ: Technology has changed the way we work amid the COVID-19 crisis: A look at in-demand technologies What are the Non-Traditional Neobanks? Neobanks are the financial institutions which operate purely online. Neobanks are also referred to as smart banks. The growing demand for digital banking has paved the way for neobanks. These banks are accessed through their applications on smartphones/computers. Traditional banks have branches, but neobanks do not have a physical infrastructure apart from their office. Neobanks also have a different technology from the conventional banks as they solely operate online such as they are based entirely on the cloud, and the technology is built from scratch. It is essential to understand that the traditional banks which offer online/ net banking services are not neobanks. Neobanks are entirely different entities and operate exclusively online. GOOD READ: A look at Neobanks and tale of this Self-Styled Neo-lender, Wisr
Value fund refers to an open-ended equity scheme that supports a value investment strategy. These funds focuses on investing in three types of stocks which are: Underperforming stocks Low PE ratio Dollar bills selling for less than a dollar
Wash Trading When it comes to the financial markets, many fraudulent activities and malpractices happen every now and then. These white-collar crimes are often so sophisticated that sometimes they even bypass the watchdog’s guard and only comes under the radar once the damage has been done. Some of the examples of these fraudulent activities are Insider trading, Pump and Dump schemes etc. Wash trading is also one of these fraudulent activities that is treated as a criminal offence by many regulators across the world. The basic idea of Wash trading is to make frequent transactions with particular security in a short span of time which to carryout various illegal activities. Kalkine Image Wash trading generates fake volume on the listed security to lure in other investors. This artificial volume generation is done throgh a number of buying and selling transactions and is often used in Pump and Dump schemes. Wash trading is also used for unfair tax deductions on losses, and some unethical brokers also carry out Wash trading to generate more brokerage. So how Wash trading is being conducted for fake volume generation and why volume is so important? More often than not, investors and traders prefer to invest/trade in stocks that clock a high volume on a consistent basis. The high volume is generally associated with high-quality companies as an increased number of people, including big investors, High net worth individuals (HNIs), institutional investors etc. participate in these companies. Clearly, securities trading with higher volume attracts a higher number of people. For the intraday traders, a high volume is generally one of the most important criteria as they need to get in and out within a single day with high volume. If the security poses lower volume or lacks liquidity, then the trader would face a high impact cost which is never preferred. To increase the volume of trading for any security, more participation is needed from diverse set of investors; however, it is just what looks on the surface. Behind the complex world of financial markets, there are many ways to pump up the volume of the security artificially. In the Wash trading, the trader places both the buy and the sell order for a specific security. This serves two purposes; first, the volume of the transaction gets counted on the exchange. Second, the trader also does not incur any loss on the trade as generally both the transactions are executed on the same price, or with a negligible difference. This transaction creates an illusion of more transaction taking place in the security as the volume data is made public by the exchanges. However, nobody knows that it is single trader/entity that is generating the excess volume as an individual’s data is never put out publicly by the exchanges. Let's look at an example to get the practical working of a Wash trade. Suppose trader X holds 100 shares of XYZ company and somehow intends to lure in more investors to buy XYZ shares, he may start buying and selling XYX shares around the current market price of, let's say $10. Now, frequent buying and selling around $10 would keep on generating additional volume, which could become an eye candy for more investors. How is Wash trading used to claim an unfair tax deduction? Let's assume an investor X purchased 1000 shares of ABC at $10 per share. The investor sells the shares at $7 per share, making a net loss of $3,000 on his holding. Now, within a few days, the investor again purchases the same share with same quantity at $6 per share and sells them at $10 per share, making a profit of $4,000. In the above case, the investor might attempt to claim a tax deduction on his initial $3,000 loss. This deduction would offset the tax liability that is due on the $4000 gain. This would allow the investor to pay less in taxes on his capital gain even though his holding never changed materially, which is unfair and illegal. To counter this IRS (Internal Revenue Service) also has some regulations, to make the investor pay full tax liability on the entire gain on the next transaction, had the second transaction been made within 30 days of the first one. How Brokers benefit from Wash trading? Stockbrokers often come under the spotlight when unethical practices in the financial markets are talked about. However some handful unethical brokers have made a dent on the reputation of the brokerage business. Almost all of the business of a brokerage firm comes from brokerage that is being generated on every transaction, irrespective of the client’s P&L. In order to maximize the brokerage some brokers also do wash trading from their client's account which effectively generates more brokerage. The famous Libor (London Inter-bank Offered Rate) scandal also had traces of Wash trading. UBS traders colluded with the broker and paid compensation through a number of Wash trades for manipulating the LIBOR submission panels for the Japanese Yen. The traders carried out a total of nine Wash trades and generated 170,000 pounds in fees for the brokers. This was a secret way to compensate for their services, which obviously couldn’t be paid openly. Bottom line Wash trades are being carried out since a long time for various purposes like fake volume generation, generation of excess brokerage or trying to claim an unfair tax deduction. However, the watchdogs are also aware of these fraudulent activities and authorities like IRS and SEC also have some regulations in place to counter these activities. It is just one of the numerous white-collar ways in which the manipulations and malpractices in the financial markets take place. In case, any market participant comes across any of such activity should report to the respective authorities.
What is Annuity & its fundamentals? Annuity, a contract meant for long term duration, is issued & sold by a life insurance company. The insurance company makes the payment in a fixed stream to retirees upon annuitization, which is generally an income to the latter. The annuities are designed to underpin the growth of retirement income and are funded by individuals. In case of a deferred annuity, where payments begin after a certain duration, there is an accumulation phase which is the time period when an annuity is being accumulated before the fund payouts to the individuals begin. When the payments start, the contract is said to have entered an annuitization phase. In case of an immediate annuity, payments begin immediately in the annuitization phase, and there is no accumulation phase. The life insurance company after accumulating funds from individuals generally invests in mutual funds to get profit from their investments. What is the Purpose of Buying Annuities? As a part of retirement income planning, the annuities are relied upon to get a regular income through a steady cash flow in the retirement phase. The investors can take the payments either as a lump-sum amount or get paid periodically. The payment to the annuitant is done either for a fixed period or for the annuitant's remaining lifetime. On the other hand, making the corpus of fund for retirement is not easy, as one has to find out how much an individual needs to save to retire. This is where the real financial planning begins. There are a number of retirement savings options available to an individual, tailored to specific needs. For example, investment can be made through the employer in the form of an annuity or super funds or pension plan. Meanwhile, some market players in favor of income strategy also consider exposure to dividend stocks for beefing retirement investment portfolio. What is the difference between Annuities and Pension? While both annuities and pension are common sources of retirement income, it is important to understand the difference between the two. Though annuities are purchased from insurance companies via the signing of the contract, the pension is generally a kind of retirement account offered by companies to their employees. Individuals buy an annuity scheme from life insurance companies to get a guaranteed regular/lump sum income after retirement, whereas people save from the amount earned to make a pension pot throughout the life when they are earning. While pension benefits are availed post the retirement, financial benefits of annuities do not necessarily require the person to retire. ALSO READ: Retire from Work, Not From Life: Superannuation And Age Pension What is the difference between Annuities and Insurance? While both annuities and insurance plans are essential components of long-term financial planning, some differences between the two deserve closer attention. Notably, annuities can be purchased without a medical need, unlike insurance. Looking a payment flows, annuities dole out funds to the owner when the annuitization period begins as per the contract. While, insurance schemes provide income streams to dependent in case of the owner’s death, unless the policy is surrendered. What are the different types of Annuities? There are various types of annuities, and the exact payment structure of each individual will depend upon the terms that the individual had agreed with the insurance company. Annuities can be structured into different kinds of instruments, that includes fixed, variable & indexed with the options of immediate or deferred income, that gives the investors flexibility to get their payments as annuities in different forms. Fixed annuity provides the guarantee of a minimum rate of interest on the money invested by an individual and also offers a fixed number of payments that will be received from the insurance company. Variable annuity gives the individuals an option to invest the money in different types of securities as the mutual funds do. The payments an individual will receive in the form of annuities will depend on the performance of the funds. Indexed annuity combines the benefits of both fixed and variable products. The returns on investment an individual will get from an indexed annuity are not dependent on individual’s investment decision but will depend on the performance of stock market indices like the S&P 500, where the fund manager invests in the stocks of the index in the same weightage. An investor in all the three annuity types, has an option of choosing an immediate annuity or a deferred annuity. In an immediate annuity, the individuals deposit the insurance company with a lump sum and can immediately start receiving the annuities. In a deferred annuity, the individuals pay a lump sum or a series of payments but will not start getting payouts as annuities until a specified period. This gives the individual’s money an opportunity to perform and either earn interest or appreciate, as for a variable annuity. What are the Benefits vs Risks of Investing in Annuities? An annuity is considered to be a good option as it offers regular payments, tax benefits and a potential death benefit. The most basic feature of an annuity is the individual gets an opportunity to tap regular payments in the form of supplemental income from an insurance company during the retirement. This will help the individuals that have not saved enough to cover their normal expenses. Further, the money that individuals contribute to an annuity is tax-deferred, which means the individuals do not need to pay taxes on the money until the individual starts receiving the payments. Annuities somewhat guarantee returns in terms of safeguarding retirement related financial requirements. Meanwhile, there is a certain level of risk involved when individuals invest their money. The individuals get fixed annuities guarantee on a certain percentage of the individual’s principal (original) investment, which is generally quite low. Moreover, variable annuities carry more risks because of the probability for an individual to actually lose the money, depending on the fund’s performance. However, variable annuities offer an extra benefit, which is a death benefit. Besides, the annuities have illiquid nature. Once the individual has contributed the money to fund an annuity, he cannot get it back or even pass it on to a beneficiary. It could only be possible if the individual has opted for another annuity plan, however, this could involve fees attached to it. Further, the benefits will disappear when an individual die. Besides, annuities generally involve high fees like administrative fees, mortality and expense fees associated with annuities, which makes the annuity products among the most expensive investment products available in the market. Insurance companies charge these fees, in order to cover the costs and risks of insuring the individual’s money. What do we understand by Death Benefit Associated with Variable Annuities? A death benefit is a payment made by the insurance company to a beneficiary when an individual who invests principally dies. The death benefit for a basic variable annuity is generally equal to the amount that the individual had contributed to the annuity. It will not depend upon the performance of the securities of the annuity’s fund. There are also variable annuities with enhanced death benefits, in which the insurance company records the value of the individual annuity’s investments each year on the annuity’s start date. In the case an individual dies, then the insurance company pays a death benefit equivalent to the highest recorded value of the annuity. For example, suppose an individual has entered into an annuity contract of total value $50,000 and on the anniversary of the annuity’s start date, the individual’s investments have increased to $75,000. The individual’s death benefit would then be of total value of $75,000, even if the value of the investments has fallen for the rest of your life. What are the different terms associated with Annuities? The annuity contracts have surrender charges which apply to both variable and fixed annuities. Surrender fees are generally high and require to be given for an extended period of time. A surrender charge is incurred when an individual goes for more withdrawals than actually allotted. The insurance company has the power to limit withdrawals primarily during the early years of the contract. Some annuities also have additional riders attached that are availed by giving an extra fee. A rider provides a guarantee which is optional. For instance, adding death benefits to an individual’s contract requires a death benefit rider. Rider fees will vary across individuals, but they can be of higher costs (up to 50% of the value of the in account). Moreover, the deposits into annuity contracts are generally locked up for a certain duration, which is known as the surrender period. The annuitant would incur a penalty if all or part of that money within this period gets touched. These surrender periods can be of a time period of two to more than 10 years, which will depend on the particular product. Surrender fees can be of 10% or even more and the penalty generally falls annually over the surrender period.