Bull market yields bonanza of get-rich-quick schemes
Case of fugitive financier Martin Frankel illustrates difficulties of
The longest bull market in history has produced unparalleled personal wealth, emboldened American business, and given the US Treasury a tax windfall.
But the boom also has a dark side: a dramatic increase in fraud.
Increasingly, perpetrators of investment scams are combining old techniques with new technology to take advantage of people eager to make a quick buck. The result is a proliferation of fraud cases that is swamping regulatory agencies.
The challenge confronting regulators in this boom time is underscored by the case of Martin Frankel. The Greenwich, Conn., financier is accused of masterminding a pyramid scheme so complex that the damage toll is unclear. Insurance companies have lost at least $215 million in investment deals with him, though the losses could be in the billions. Mr. Frankel's alleged misdeeds happened years after regulators banned him from the securities business for life.
While the scale of Frankel's alleged theft puts the case in a class by itself, it comes at a time when a financial-industry underworld is aggressively pitching scams to institutions and the public, experts say. The Securities and Exchange Commission (SEC) has pursued 54 percent more fraud cases this year than 10 years ago.
Among the most common schemes is "pump and dump," a trick almost as old as financial markets themselves. Companies persuade people to buy a stock, thus driving up the price, and then sell off their own shares at the higher price. When everyone catches on, the price crashes back down and those who bought shares at inflated prices lose money.
Now, age-old scams like this one can reach a wider audience via new technology. The Internet has created a new arena for deception, says David Bayless, a lawyer who until recently worked for the SEC on enforcement. "Before, if you had a broker who cold-called you, he had to do it one-by-one. This way, [he] can put up a fraudulent Web site and reach millions of people instantly," says Mr. Bayless, now with Morrison & Foerster in San Francisco.
The spectacular bull market, meanwhile, has millions of people hoping to strike it rich in stocks.
"When watching TV, people see how the stock market is going through the roof.... All of a sudden, some hotshot calls saying they can double their money," says Jeffrey Grubman, a lawyer with the Miami firm Herman Grubman & Moore who represents fraud victims. The lure of easy money, he says, is a temptation that even some savvy businesspeople can't resist.
Consider Gary Basing, one of Mr. Grubman's clients. The owner of a small business in Clearwater, Fla., Mr. Basing had never invested in stocks before 1996 but had accumulated significant savings. Then a broker called from Sterling Foster, a now-defunct New York firm that dealt in the stocks of very small companies.
Basing says the broker promised big returns and "the way he talked, it sounded very safe." He wanted to profit from the stock market boom just like his friends. And the firm called him three or four times a day to pressure him to invest more.
Then things really got out of control. Basing says the company made transactions without his permission. He started receiving "margin calls," demands for payment on investments made with borrowed money after those investments fell in price.
Sterling Foster finally shut down in March 1997, amid allegations of fraud. Prosecutors say the company bilked people out of $100 million in a complicated version of pump-and-dump. Sterling Foster's attorney would not comment.
In May, one of the company's inner circle pleaded guilty to securities fraud and other charges. Thirty-one of the firm's employees have been ordered to pay $4.3 million in fines and restitution. Prosecutors believe that the operation's mastermind was a man regulators had disciplined repeatedly during the 1980s.
"I worked and saved all my life," says Basing, who lost his life's savings of more than $400,000. "I had money tucked away for my kids' college education. It ruined me." An arbitration panel of the National Association of Securities Dealers has found in Basing's favor.
The Frankel and Sterling Foster cases show how easy it is for a person barred from the securities industry to resume business. "If he's a fraud, he probably won't mind lying" on forms that ask about past disciplinary actions, Bayless says.
Meanwhile, securities regulators are teaming up with US Attorneys and other agencies to put fraud artists in prison. In some cases, "the only thing that will scare them will be jail time," says SEC spokesman Duncan King.
The SEC also has 240 officials scanning the Web. While the Internet has opened new avenues for fraud, it also enables investigators to see whatever the public sees. The SEC has brought charges in several Internet cases before anyone was duped.
Ultimately, specialists say, investors must learn to be skeptical about anything that hints of a scheme.
"You work hard all your life to try to build things for your family, and it can be gone overnight," warns fraud victim Basing. "It's just a devastating thing."