Beware the Top 10 Investor Traps

With a new school year about to begin, the Nova Scotia Securities Commission reminds investors to take stock of their financial education and arm themselves with the knowledge to sidestep this year's top 10 investor traps.

Natalie MacLellan, investor education co-ordinator, said that investors under pressure from the struggling economy need to resist the lure of sales pitches.

"An educated investor should be alert at all times, but especially when money is tight," said Ms. MacLellan. "Falling into an investment trap makes it harder to get back on solid financial ground."

Many of the traps identified by the North American Securities Administrators Association, of which Nova Scotia Securities Commission is a member, promise high returns to cash-strapped investors but provide little, if any, disclosure of risks. They also offer high commissions to aggressive sales forces.

"When it comes to investing, verify everything and everyone before you part with your money," Ms. MacLellan said. "Education and information are an investor's best defence against investment fraud.

"Provincial securities regulators can provide certain information about those who sell securities or give investment advice, as well as about the products being offered. Investors should always be wary of unsolicited financial advice or investment opportunities."

The association has identified real estate investment schemes, leveraged ETFs, private placement offerings, natural resources investments and Ponzi schemes as the greatest potential threats to investors this year. Here is an alphabetical list of the top traps this year.

Entertainment Investments: Unregistered investments, encompassing a variety of products including movies, infomercials, internet gambling and pornography sites, promise high returns while offering little disclosure of risk.

Gold Bullion and Currency Scams: Investors should beware of gold bullion scams in which the seller offers to retain "purchased" gold in a "secure vault" and promises to sell the gold as it gains in value. In many instances the gold does not exist. Many foreign exchange (forex) trading schemes are similar. Trading in foreign currencies requires resources far beyond the capacity of most individual investors. In many instances there are no trades; the money is simply stolen.

Leveraged Exchange-Traded Funds (ETFs): This relatively new financial product has been offered to investors who may not be aware of the risks. The funds, which trade throughout the day like a stock, use exotic financial instruments such as options and other derivatives, and promise to potentially provide greater than market returns. These volatile funds typically are not suitable for most retail investors.

Life Settlements: These have helped some obtain funds for uninsured medical expenses and other purposes, but the benefits come at a high price for investors, particularly senior citizens. Wide-ranging fraudulent practices in the life settlement market include Ponzi schemes, fraudulent life expectancy evaluations, inadequate premium reserves that increase investor costs and false promises of large profits with minimal risk.

Natural Resource Investments: The Nova Scotia Securities Commission expects to continue to see a rise in energy and precious metals scams promising quick, high returns. Investors anxious to recover losses quickly likely will be hooked by oil and gas schemes, natural gas, wind and solar energy, and the development of new energy-efficient technologies.

Ponzi Schemes: Despite heightened awareness, these scams continue to trap investors. The house-of-cards swindle pays high returns to initial investors out of the funds of later investors, who end up losing all or most of their money. The Nova Scotia Securities Commission urges investors to beware of investment opportunities promising high and steady rates of return.

"While some Ponzi investors may have a slight chance of realizing a return on their investment, most investors have, from the outset, no hope of recovery. Ponzi schemes are the securities world's equivalent of a purse snatch," Ms. MacLellan said.

Private Placement Offerings: These offer businesses an opportunity to raise capital by selling securities to a relatively small number of investors. Securities regulators have observed a steady and significant rise in the number of private placement offerings that are later discovered to be problematic, especially those made under National Instrument 45-106. Companies using this exemption can raise an unlimited amount of money without registering the offering with the Nova Scotia Securities Commission, as long as they meet certain standards. Although properly used by many legitimate issuers, the exemption has become an attractive option for con artists.

Real Estate Investment Schemes: These often claim secret or exclusive techniques for building wealth, and offer loans or suggestions to finance the investment, such as remortgaging houses.

If real estate is bought for a set price and ownership is on a set date, that is likely a real estate transaction. If the seller continues to own the property and only sells an interest, then it might be a security.

Some homeowners, particularly seniors, may be attracted to reverse mortgages, which are a legitimate lending option. However, the lump-sum payment makes them an attractive target for unscrupulous salesmen, who may direct them toward worthless or unsuitable investments.

Short-term Commercial Promissory Notes: Many seniors have lost their life savings by investing in short-term commercial promissory notes of nine months or less. These notes may be touted as being "insured" or "guaranteed," but the insurance companies generally are located outside of Canada, are not licensed to do business in Canada, and lack the resources necessary to deliver on the promised guarantees. Unlike publicly advertised promissory notes, promoters usually try to use commercial paper exemptions to sell the products without registration. The exemptions apply only to high-grade commercial paper traded by major corporations, not risky notes.

Speculative Inventions and New Products: New products are for venture capitalists who know how to assess risks. They are not good investments for retirement, even though they may promise high returns.

For more information, contact the Nova Scotia Securities Commission at 424-4558 or visit beforeyouinvest.ca .