Another investment scam made the news last week, this time close to home. Tennessee regulators busted a Colorado brew pub owner for selling unregistered investments in a Chattanooga company purporting to operate gas wells in Kentucky and promised excessive returns. On its face, the proposition had "keep away" written all over it. But as happens so often, some trusting souls succumbed to an enticing pitch without making even superficial inquiries into the bona fides of the peddler or the company. It is a cautionary tale that reinforces the need for investors to do their homework.
Investment sales are heavily regulated by both state and federal agencies. For individual investors, the first line of defense is registration of an investment with the Securities and Exchange Commission. While such registration does not imply a judgment on the potential for gain or loss, it does signify that the security has passed legal muster and is required to file public financial statements. Stocks listed for trading on the exchanges as well as many bonds and public partnerships are registered with the SEC and are readily available for purchase by any individual investor. You might still lose your shirt, but you will know that some level of due diligence has been conducted to ensure that the entity actually exists.
Securities that are not registered with the SEC have not undergone the same diligence process and should be accorded "caveat emptor" status: buyer beware. Purchase of unregistered securities (sometimes called private placements) is limited to so-called "accredited investors", assumed to be sufficiently sophisticated to conduct reasonable vetting and whose net worth is adequate to withstand a significant loss on the investment. Accredited investors must have a consistent income in excess of $200,000 or a net worth in excess of $1 million. Most individuals do not qualify, and in general should stay far away from unregistered securities. Still, the siren song of plethoric profits is enchanting, so the next step is to verify the credentials of the seductress.
Without exception, anyone involved in the sale of securities must themselves be registered with the requisite agencies. Brokers, dealers and investment advisors and their sales representatives must have appropriate professional qualifications and be licensed by state or federal regulators in order to offer investments for sale. Many of the common instances of fraud are perpetrated by unregistered salespeople. Ironically, this is the easiest aspect of investing to research and verify, yet all too often this step is overlooked.
Before investing with anyone, make your first stop the BrokerCheck website at BrokerCheck.FINRA.org. This website is your gateway to the official record of investment firms and their personnel, including the states in which they are licensed as well as a history of any disciplinary actions to which they have been subject. A five minute visit to BrokerCheck would have saved several investors many thousands of dollars in the recent Chattanooga scam wreaked by the Colorado bartender-cum-broker.
Special diligence is warranted if you are pondering an unregistered investment. Even if a salesperson checks out with the Feds at BrokerCheck, it's a good idea to touch base with your state's securities regulators as well to see if there are any pending claims against the individual or the firm that may not have shown up in the FINRA database.
Finally, ask lots of questions. What licenses do you hold? Where are you registered? How are you being paid and how much? What is your background (and your favorite seasonal ale)? All fair game when it's your money. Simple steps can help you avoid becoming a victim.
Christopher A. Hopkins, CFA, is a vice president and portfolio manager for Barnett & Co. in Chattanooga.