Securities fraud

Securities fraud includes a wide range of crimes involving such activities as insider trading and the willful manipulation of investors or investment information. In the latter case, fraudsters often dupe unsuspecting victims by misrepresenting the potential benefits of an investment opportunity, usually in a bid to lure investors into committing their money to the scheme. Common examples of such scams include pyramid and Ponzi schemes, and investment fraud based around empty promises of attractive and high rates of return. Insider trading occurs when an individual or institutional investor illegally uses unpublished or illicitly acquired confidential information to guide buying or selling decisions on market-traded securities.

Analysts note that it is difficult to precisely measure the amount of money illegally generated by securities fraudsters, as investigators never quite know how much of the activity goes undetected. However, law enforcement and financial market regulation officials note that securities fraud makes up a significant part of the world’s overall fraud problem, which causes economic losses of more than $4 trillion each year.

Background

Securities fraud is a type of white-collar crime, an informal term used to describe nonviolent illegal activities undertaken for the purposes of financial gain. Many white-collar criminals are individuals associated with business or government who abuse their positions of authority and inside status to commit financial crimes.

Individuals and organizations can both perpetrate securities fraud, with individual actors ranging from professional scam artists to credentialed business and financial professionals who appear to be legitimate. Some criminal syndicates specialize in white-collar crime, but organizations that commit securities fraud can also include financial institutions like banks, brokerage houses, and investment firms. There are numerous examples in which large, internationally recognized financial institutions have been involved in securities fraud. Coordinated operations are also frequently carried out in “boiler rooms,” where scammers use high-pressure sales tactics in an effort to convince victims to buy extremely risky or worthless securities.

In the United States, multiple law enforcement and regulatory agencies investigate and prosecute securities fraud. On the regulatory front, the Securities and Exchange Commission (SEC) plays a major role in fighting it. Established in 1934 in the aftermath of the 1929 stock market crash that began the Great Depression, the SEC holds supervisory authority over Wall Street exchanges, financial markets, and financial institutions. The Federal Trade Commission (FTC), a consumer protection agency founded in 1914, also investigates securities fraud cases, particularly those involving the targeted deception or manipulation of multiple investors. Among federal law enforcement agencies, the Federal Bureau of Investigation (FBI) is the most prominent organization working to prevent and punish securities fraud.

However, securities fraud is a global problem complicated by variations in the laws and legal systems used in different countries. Very few police agencies have a mandate to enforce international law, with the International Criminal Police Organization (Interpol) holding the most authority. Founded in Vienna, Austria, in 1923, Interpol has over 195 member countries and a presence on every inhabited continent on Earth.

Overview

The FBI publishes a comprehensive guide to recognizing, avoiding, and reporting securities fraud. It warns the public of seven key types of such illegal activity: high-yield investment fraud, Ponzi and pyramid schemes, advanced fee schemes, foreign currency fraud, hedge fund fraud, late day trading, and broker embezzlement.

High-yield investment fraud represents one of the most common and familiar forms of securities fraud. It occurs when investors are promised lucrative profits or returns on investments purported to carry little risk, when, in reality, the securities or investments being peddled have little to no value, present unacceptably high amounts of risk, or do not exist at all. Many cases begin when the fraudster initiates unsolicited contact with the victim, gets the victim’s interest, and then directs the victim into an illegal sale.

Ponzi schemes are named after the infamous Italian con man Charles Ponzi, who duped investors for millions in the United States and Canada in the 1920s. Ponzi schemes also promise high rates of return but actually pay out some investors using money collected from newly recruited victims. The disbursements make the scam appear authentic while its mastermind pockets all other proceeds. Pyramid schemes function almost identically, but usually entice existing investors to find, invite, and knowingly deceive new investors in order to realize their promised payouts.

Advance fee schemes involve scammers promising investors ownership of lucrative stocks, bonds, or financial products for no up-front investment. Instead, victims are conned into paying a small sum of money to cover commissions, taxes, or brokerage fees. In reality, the promised financial products do not exist, and the scam artists simply pocket the advanced fees.

Foreign currency fraud leverages the relative volatility and constant movement of the global foreign exchange market, which can generate very high levels of return for experienced investors who make the correct decisions. These schemes typically promise victims high rates of return in exchange for trading in the foreign exchange market, with their capital being ostensibly controlled by an individual or organization known for its success in currency trading. In some cases, victims are also lured in with an accompanying pledge of a high-paying job in currency trading that requires no previous experience and no specialized knowledge. Foreign currency trading scams increased significantly in the twenty-first century with the rise of technology and the increase of online banking and financial transactions. The Commodity Futures Trading Commission (CFTC) noted that online platforms and social media allowed scammers to construct sophisticated offers and advertise them to more people, increasing their chances of success.

Late-day trading is a complex financial crime in which an individual or institutional investor places orders to buy or sell a mutual fund security after the market has closed for the day and its price leading into the next day’s trading has been set. In some cases, news and information will be released after market close that indicates whether the security’s value will increase or decrease when trading opens the following day. Buyers and sellers can enter into unofficial, confidential agreements to trade such securities after hours but record the transaction time and price to reflect the previous trading day’s market close.

Hedge fund fraud can involve many different elements: the fund may actually be a Ponzi scheme, advance fee scheme, or some other form of false promise scam. Alternatively, the hedge fund may be illegally obscuring losses, which it seeks to recover by defrauding new investors of their capital.

Broker embezzlement is a type of fraud in which a stockbroker or other investment professional appropriates client funds entrusted to them. The broker may use these funds to purchase unauthorized investments in an attempt to earn profits using the victim’s money, launder the money for the purposes of stealing it, or otherwise breach their fiduciary duty for personal gain.

Bibliography

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Chen, James. “What Is Securities Fraud? Definition, Main Elements, and Examples.” Investopedia, 9 June 2022, www.investopedia.com/terms/s/securities-fraud.asp. Accessed 5 Jan. 2025.

“Mission.” Securities and Exchange Commission, 9 Aug. 2023, www.sec.gov/about/mission. Accessed 5 Jan. 2025.

“Securities Fraud Awareness and Prevention Tips.” Federal Bureau of Investigation, www.fbi.gov/stats-services/publications/securities-fraud. Accessed 5 Jan. 2025.

"Securities Fraud." Cornell Law School, www.law.cornell.edu/wex/securities‗fraud. Accessed 5 Jan. 2025.

Steinberg, Marc I. Securities Regulation: Liabilities and Remedies. Law Journal Press, 2018.

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Velikonja, Urska. “The Cost of Securities Fraud.” William & Mary Law Review, vol. 54, no. 6, 2013, pp. 1887–960, scholarship.law.wm.edu/wmlr/vol54/iss6/4. Accessed 5 Jan. 2025.

"What Is Securities Fraud? A Comprehensive Overview." Kohn, Kohn & Colapinto, 23 Apr. 2024, kkc.com/frequently-asked-questions/what-is-securities-fraud. Accessed 5 Jan. 2025.