Ponzi schemes lure investors with the promise of quick riches

The Securities and Exchange Commission (SEC) recently charged two mining companies, along with their founder Homero Josh Garza, with conducting a Ponzi scheme that “used the lure of quick riches from virtual currency to defraud investors.”

The SEC alleges that Garza defrauded investors through his Connecticut-based bitcoin mining companies GAW Miners and ZenMiner. Investors were sold shares in the operations, but the companies did not own enough computing power to create the funds to pay investors what they were promised.

“As alleged in our complaint, Garza and his companies cloaked their scheme in technological sophistication and jargon, but the fraud was simple at its core: they sold what they did not own, misrepresented what they were selling, and robbed one investor to pay another.”
— – Paul G. Levenson, Director of the SEC Boston Regional Office

The SEC complaint states that from August 2014 to December 2014 Garza’s companies sold shares worth US$20m, in the form of digital mining contracts referred to as Hashlets. There were over 10,000 investors who believed Hashlets would be profitable.

“Although Hashlets were depicted in GAW Miners’ marketing materials as a physical product or piece of mining hardware, the promised contract purportedly entitled the investor to control a share of computing power that GAW Miners claimed to own and operate.”
— – SEC

The report states that Garza’s companies directed little to no computing power toward mining activity. Investors were simply paid back gradually over time under the mantra of “returns,” out of funds that Garza and his companies collected from other investors. “Most Hashlet investors never recovered the full amount of their investments, and few made a profit,” stated the SEC.

Ponzi schemes such as these are always presented as investment opportunities. Typically, an individual or organization will lure investors with the promise of unusually high returns and consistent pay-outs. The operator will often rob Peter to pay Paul, which means paying one debt by incurring another.

This style of fraudulent investment operation is named after Charles Ponzi. In the 1920s Ponzi promised investors in postal coupons a 50 percent return within 45 days, or 100 percent within 90 days. He never purchased the coupons, and became a millionaire within six months.

Ponzi ran his scheme unabated for a full year, accruing US$15m in the process. He was eventually charged with 86 counts of mail fraud, and sentenced to five years in jail. After his release, Ponzi entered into yet another scheme, this time in real estate. However, the land was located under water, and he was soon jailed again. The schemer passed away penniless in Brazil.

While Ponzi ran the largest of these schemes a the time, it pales in comparison to the fraud committed by Bernard (Bernie) Madoff. Having founded the Wall Street firm Bernard L. Madoff Investment Securities LLC in 1960, Madoff was arrested in 2008.

Madoff pleaded guilty to 11 federal felonies in 2009, admitted to turning his wealth management business into a massive Ponzi scheme, and is currently serving a 150-year prison term. The court appointed trustee tasked with finding the funds, Irving Picard, stated “Thousands of retirees, charities, investment funds and other clients had invested about $17.5 billion in principal to Madoff’s decades-long scheme.”

Currently the bitcoin community is banding together, sounding out against what appears to be yet another suspicious company. Miners Center has come under fire in numerous forums, with clients concerned about the legitimacy of their bitcoin purchases.

The Miners Center site states that it’s a company focused on cryptocurrency business and investment. “The company’s business plan encompasses several development directions, all revolving around Bitcoin adoption as a widespread currency. Given this approach, together with the owners vision and the capital they have made available for investment, the current goal is volume buying and the establishment of a significant Bitcoin stock.”

The site purchases bitcoin for 10 percent more than market value, and payments are made via wire transfer or Paypal accounts. Users claim that payments for their bitcoin do eventually arrive, only to be reversed later on. As bitcoin transfers are irreversible, the seller walks away out of pocket.

Market commentators have noticed that the offers and the text used are extraordinarily similar to BTCFlap, a scam that was unearthed earlier this year. While that site is no longer accessible, the vague business model presented while it was running may have provided a similar red flag.

"We cannot go public with our future business plan at the moment because it is easy to have competitors steal our ideas and we don’t want that to happen. People may be asking what do we have in mind and many have been wondering if this business makes any sense, as we’re buying expensive Bitcoin, but we have a strategy behind all this and we are confident we’ll surprise the market in a very good way soon."
— – Paul Goldwin, BTCFlap Founder and CEO

It has not yet been confirmed whether Miners Center is acting fraudulently, but it pays to be aware that scams are rife in many industries, and some can persist for decades. Due diligence prior to investing in any company is always an advantage.