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News Release: 00-08

GRAY DAVIS, Governor
Date: 05/23/00

WILLIAM KENEFICK, Acting Commissioner

Department of Corporations Issues Year 2000 Enforcement Priorities

Top-Ten Investment Scams Updated

 

Sacramento, May 23, 2000 — The Department of Corporations, California’s securities regulator, today issued a revised list of top-ten securities scams and a warning to investors to thoroughly investigate new investment opportunities before handing over money.

State regulators recommend that investors proceed with caution if considering any of the vast array of investment opportunities now available on the Internet. Given the current market volatility, it is even more critical that investors understand the difference between real investment opportunities and scams. The department advises investors to follow the tried-and-true rules of dealing with licensed entities and individuals, and to consider investments in products that have stood the test of time or have been thoroughly reviewed.

In cooperation with the North American Securities Administrators Association, the department issues its updated list of top-ten investment frauds. Promissory note scams top this year’s list, which also includes Internet fraud, affinity group fraud, investment seminars, telemarketing fraud and viatical investments, to mention a few.

The complete list of Top-Ten Scams are currently listed on the department’s Website (www.corp.ca.gov) and reflect the Department of Corporations’ 2000 enforcement priorities:

  1. Promissory notes — The states are working together and coordinating with the Securities Exchange Commission (SEC) on a nationwide project relating to the illegal and fraudulent sale of promissory notes and unlicensed broker-dealer activity by the sales agents marketing them. Many of the notes are being marketed as 9-month promissory notes in an attempt to rely on narrow exemptions from federal and state securities laws, but these exemptions do not apply. Investors should beware of cross-marketing of investment and financial products by insurance, banking and securities firms; and by insurance agents and financial planners who are often selling products they don’t understand. Many don’t bother to do proper due diligence checks to determine whether the investments are legitimate.
  2. Internet fraud — California was one of the first states to introduce an Internet Surveillance Program. Now, half the states have programs to identify illegal and fraudulent investment offerings, market manipulation, insider trading and unlicensed broker-dealer, as well as agent and investment adviser activity on the Internet. Working groups have been formed to improve referrals and coordination among the states and with the SEC. States are receiving training in computer crime investigative procedures from the National Cybercrime Training Partnership. On-line trading has become a major issue in terms of trade execution, capacity, disclosure, margin and suitability. State regulators have brought actions against a number of day trading firms for unlicensed investment adviser activity, unlicensed broker-dealer activity, and fraud in connection with guaranteed results and promises of success.
  3. Telemarketing fraud — New boiler rooms, or high pressure telephone sales operations, are opening all the time selling illegal and fraudulent investment products and many of them are making as much as $1 million a month. Sales representatives will say anything to convince the investor to part with his or her money because they don’t have any intention of delivering on their promises. California received one of five grants from the U.S. Department of Justice to attack telemarketing fraud, establishing a major telemarketing project in Southern California. The program is a partnership between local, state and federal law enforcement and regulatory agencies working together to prevent and prosecute telemarketing fraud and to create innovative enforcement techniques that will serve as a model for the nation.
  4. Investment seminars and financial planner activity — The states now have greater responsibilities for the regulation of investment adviser activity and are concerned about the proliferation of investment seminars and financial planners offering investment advice that may require a license. State regulators are also concerned there may be a lack of disclosure of conflicts of interest and hidden fees and commissions. The proliferation of "tout sheets" and other financial advice on the Internet has created new legal questions about what constitutes investment advice that requires a license, what is opinion and what is a bona fide publication. Many Internet advice forums claim not to receive fees or commissions for their recommendations but may be engaging in trading patterns that constitute market manipulation.
  5. Affinity group fraud — The states continue to bring enforcement actions involving breach of trust and fraud on religious, ethnic and professional groups by members of these groups or persons claiming to provide assistance to these groups. Advertising in the media that serves specific ethnic groups is used to identify potential victims, often with offers of employment, training or financial advice. Ethnic communities particularly have recently been targets of bogus investments in precious metals and foreign currencies allegedly being traded on the Hong Kong and other foreign exchanges. Unscrupulous promoters rely on perceived opportunities in international investments to entice investors to speculate in questionable foreign currency investments, usually on unregulated or non-existent foreign exchanges. Typically, the promoter just steals all the money and no investments are actually made.
  6. Abusive sales practices by licensed broker-dealers and agents — In the regulated industry, sales of securities to unsuitable investors, failure to disclose critical information, fraudulent offerings of securities and market manipulation are of great concern to the state regulators. A number of enforcement actions have been brought against brokers who specialize in the manipulation of low-priced microcap offerings, including revocations, bars, suspensions, injunctive actions and criminal prosecutions. Increasingly, states are utilizing actions by other states as the basis for enforcement actions. As a result, many of the worst microcap dealers have been put out of business. Investor vigilance is still required, however.

    On-line trading has become a major concern to state regulators in terms of trade execution, capacity, disclosure, margin and suitability. State regulators are playing an active role in the dialogue with the regulated industry on how to accommodate new technologies with the need for investor protection and vigorous regulatory oversight.

  7. Viatical investment scams — Viatical investments are still one of the hottest investment products in the marketplace, and also one of the riskiest. Viatical investment companies solicit investors to buy interests in the death benefits provided for in life insurance policies of terminally ill patients, including AIDS and cancer patients. The insured receives a discounted percentage of the death benefits in cash to allegedly improve the quality of their lives in the final days. Investors get their share of the death benefit when the insured dies, less a brokerage fee for the viatical investment broker. Because of the uncertainties involved in predicting when a person is going to die, even a person with a disease considered terminal, these investments must be considered extremely speculative and are only appropriate for persons willing to risk losing all their investment. On the investment side, these investments are being heavily marketed as humanitarian and profitable investment opportunities to elderly investors and investors with IRA accounts for whom they are entirely unsuitable.
  8. High tech products and services — The states have participated in a number of multi-state and state-federal task force actions against illegal offerings of high tech investments. Such illegal offerings target unsophisticated investors with promises of high profits with no risk by getting in on the ground floor by investing in the latest high tech products and services such as 900 number investments, Internet service providers and high tech virtual reality shopping malls.
  9. Entertainment — Many scams offer opportunities for investments in movie deals and other entertainment products with promises of guaranteed profits and pitches that emphasize the potential profitability of many popular entertainment vehicles without disclosing the risk.
  10. Ponzi/pyramid schemes/bunco — Ponzi and pyramid schemes continue to be popular. Ponzi schemes are swindles in which tremendous rates of return are paid to initial investors out of funds from later investors, who end up losing all of their money when the house of cards falls down. A pyramid scheme involves the collection of money from individuals at the bottom (new investors) to pay the initial investors at the top, with all the emphasis on bringing in new members/investors and not on selling the product or service. Recently, there have been a large number of schemes offering investments in alleged "prime bank interests" of world banking entities. In fact, there is no such thing as a prime bank interest, and the offerings are just scams.

The Department of Corporations is California's Investment and Financing Authority, reporting to the Business, Transportation and Housing Agency and the Governor. The Department is responsible for the regulation, enforcement and licensing of securities, franchises, off-exchange commodities, investment and financial services, independent escrows, consumer and commercial finance lending and residential mortgage lending. For further information or to obtain a complaint form, see the Department's Web site at www.corp.ca.gov.

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