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Study finds retirement worries make investors more vulnerable to fraud

by Wayne Cheveldayoff, 2005-09-29

Are you feeling desperate about the amount of money you will have in retirement?

That’s the frame of mind most people were in when they chased high returns and then subsequently lost large chunks of their savings in the Eron Mortgage fraud in British Columbia, according to a ground-braking study funded by the B.C. Securities Commission.

The victims were attracted by high returns of 18 to 24 per cent when one-year GICs were in the range of 6 per cent in the mid-1990s. They were told that the returns were guaranteed and came from interim financing of construction projects.

The high returns, of course, were not guaranteed, and thousands of investors lost most of the $240 million invested in the scheme that operated in the province between 1993 and 1997.

What was really going on, according to the author of the study, Neil Boyd, a criminology professor at Simon Fraser University, was a classic Ponzi scheme where early investors were paid from new money coming in from later investors.

The study, the first detailed empirical research of a single investment fraud, surveyed 2,285 individuals known to have invested in various Eron and conducted in-depth interviews with 180 of these investors.

The study (available at www.bcsc.bc.ca) found 60 per cent of the Eron investors were male and they were older than average investors. Most were in their mid-50s or older at the time of their initial investment. They were no better educated and no more affluent than the average British Columbian of a similar age, with approximately two-thirds reporting total annual household incomes of less than $75,000 and with an average age of 55, their net worth was about $200,000.

When asked why they invested in Eron, the majority – 58 per cent – said it was to fund future retirement, while only 19 per cent wanted to enhance their current lifestyle and 12 per cent wanted the income for basic needs.

“There were men and women who were approaching retirement without adequate resources, and we learned that the majority of the investors took their existing retirement funds, borrowed money and mortgaged their homes in order to invest in Eron,” professor Boyd says in the report.

“Additionally, we found that those who described themselves as highly knowledgeable investors – typically affluent middle-aged men – lost more than twice as much as the other Eron investors.

“Finally, we learned, contrary to some assumptions about returns in Ponzi schemes, that those who invested early in Eron (between 1993 and 1995) lost about twice as much as those who invested in 1996 and 1997.

“The effects of the Eron Mortgage losses were literally devastating to hundreds of the Eron investors. More than half of those who lost more than $50,000 reported extreme or major harm to their emotional well-being, their current financial situation, and their retirement security.

“Between 20 and 30 per cent of these investors also reported extreme or major harm to their marital relations, friendships and physical health.”

All of this happened despite some of the investors checking things out and reading the fine print before investing. Here is what one Eron investor said: “My wife and I were really good about that…we went to the Better Business Bureau and they all said…that’s a good company. We checked with the lawyer, and he said everything looks okay. So we went to one of those speeches, and I said, well let’s try one project, and it paid off for about four months, and more and more….That’s how they get you – they draw you right in. It’s the biggest con you ever saw.”

Professor Boyd noted that “one of the hallmarks of this investment fraud is that it operated on the basis of the exploitation of existing trust. Family and friends were encouraged to commit their retirement savings. Close friends – longtime brokers and business associates – talked of Eron as a safe investment.”

There are lots of lessons to be learned from their experience. Professor Boyd makes several suggestions regarding regulatory reform and investor education, especially for those approaching retirement.

But the most important take-away is that the principle of caveat emptor (buyer beware) is paramount in investments – just as it is in every other part of the commercial world.

Wayne Cheveldayoff is a former investment advisor and professional financial planner. He is currently specializing in financial communications and investor relations at Wertheim + Co. in Toronto. His columns are archived at www.smartinvesting.ca and he can be contacted at wcheveldayoff@yahoo.ca.


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©2005 Wayne Cheveldayoff