Finance: What are ponzi and pyramid schemes?

What are ponzi and pyramid schemes? A ponzi scheme is one where investors are promised attractive profits and they are paid out by incoming funds from new investors, and no actual investments are being made. The paid off investors tout the profits they made and unwittingly act as a marketing testimonial for the ponzi scheme. In a pyramid scheme, participants are incentivized to bring in additional investors so that the investor base grows geometrically. Multi level marketing platforms work in a similar fashion, and thus, pyramid scheme illegality is harder to prove when there are legitimate products and sales involved.

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Transcript

00:20

inside dope we've got two scams you'll need Teo you

00:24

know lies up to the Ponzi scheme and a pyramid

00:27

scheme First let's talk Ponzi schemes And to start there

00:31

was actually a guy named Pansy Charles Ponzi He was

00:34

a con man during the nineteen twenties You know the

00:36

time of flappers and speakeasies and folks doing the Lindy

00:39

hop on top of flagpoles People were making money on

00:42

Wall Street hand over fist and in Florida land deals

00:45

And for a while with Mr Charles Ponzi you know

00:48

who had a very particulary investment structure But he didn't

00:52

actually invent the hustle Different con artists had used it

00:56

And authors including Charles Dickens had described the scheme for

01:00

at least seventy years before Ponzi gave his name to

01:03

the setup Well a Ponzi scheme works like this The

01:06

fraudster attracts investors by offering up big guaranteed return on

01:11

their investment For instance the actual Ponzi promised fifty percent

01:15

profit in forty five days and one hundred percent return

01:18

in ninety days He claimed that he was using some

01:21

kind of postage arbitrage to reap these returns In actuality

01:26

he just used new money coming in to pay off

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old investors Well Ponzi got initial investors to give him

01:32

some money He used that money to help find new

01:34

investors and those new investors then gave the fraudster their

01:37

money And then he used the new influx of cash

01:39

to pay off the initial investors and kept going And

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it all went well for a while But eventually it

01:44

stopped It became impossible to find new investors quickly enough

01:48

to pay off the old ones and make him go

01:49

away Eventually the whole thing blew up Well the most

01:53

famous Ponzi scheme in history isn't actually the one perpetuated

01:56

by Charles Ponzi It was run by this fine gentleman

01:59

named Bernie Made off he ran a multi billion dollar

02:03

Ponzi investment scheme disguised as a successful money management business

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He was a respected figure on Wall Street for decades

02:10

and use this high profile respectability to rope in nearly

02:13

five thousand clients Well victims have made off included actor

02:17

Kevin Bacon and Nobel Prize winner Elie Weisel and pitching

02:22

great Sandy Koufax Well the scam would work like any

02:24

Ponzi scheme Kevin Bacon deposits a million dollars Madoff takes

02:28

a cut for himself then uses that money to pay

02:30

off other investors That only works as long as there

02:33

are new investors coming along to get involved Eventually though

02:37

Ponzi schemes run out of new blood and Madoff scam

02:40

eventually blew up in two thousand eight when the financial

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crisis spooked Investors who asked for their money back and

02:46

well made off just ran out of money to pay

02:48

off the clients And ultimately while sixty five billion dollars

02:51

went up in smoke okay onto a pyramid scheme A

02:55

pyramid scheme involves your three bedroom two and a half

02:58

bath Victorian style pyramid being listed on Zillow and well

03:02

this guy's your realtor You called our bluff It's actually

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named after the shape of a pyramid The Egyptians are

03:07

in no way involved And yes you geometry nerds Out

03:10

there we realised this image is a triangle and not

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a pyramid Three D rendering is expensive around here from

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up there with us The idea is the same So

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you started the top with one person He gets money

03:20

from each of the people he recruits They finds two

03:23

people They pay him money for the right to recruit

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other people into this pyramid scheme They also get money

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for recruiting people So each of them finds two people

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Same deal These new recruits pay money upward and so

03:34

on It keeps going and going just like Fonzie scheme

03:37

Well the pyramid goes as long as there are new

03:39

people to come onboard until it stops But eventually a

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number of people available for recruiting runs out The people

03:44

on the bottom can't find anyone new stupid enough to

03:46

contribute money to this thing The people on the high

03:48

levels make money and disappear but well the people on

03:51

the bottom we have the largest group They're out of

03:53

luck and pretty much out of money The problem with

03:55

pyramid schemes While some legitimate companies have very similar structures

03:59

they're called multi layered marketing companies or MLM So you

04:03

probably heard of him Avon Party Light Herbalife Yeah those

04:06

guys You know your friends who sell candles or makeup

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or nutritional Shake those air All ml EMS one level

04:12

recruits people on other levels with money moving upwards to

04:15

the top and it's all legal The difference Well theoretically

04:18

riel products are eventually getting sold to really customers A

04:22

classic illegal pyramid scheme just has money moving up and

04:26

not much value sent out or moving down But just

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as in some of those old movies it's not always

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easy to tell the good guys from the bad The

04:34

Bernie Madoffs of the world can look like legitimate Wall

04:36

Street players but turn out to be Ponzi scammers And

04:39

the new Invisible Lipstick product you're so excited about selling

04:42

can turn out to be a you know pyramid scheme

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You have to be careful because well it really all 00:04:47.628 --> [endTime] can blow up in your face Hey