Crypto and promissory notes are top fraud threats in 2022

With faster and more user-friendly investment technology comes greater risks to clients vulnerable to fraud, according to state regulators.

Cryptocurrency and other digital assets, promissory note fraud, internet and social media scams and abuses of self-directed IRAs are the top four threats to investors in 2022, according to a survey of 46 state regulators released Jan. 10 by the North American Securities Administrators Association. The organization quizzed members at state and provincial regulatory agencies on which products or schemes they view as the most pressing concerns.

“Usually what we see in the top investor threats are what I call the ‘scam dejour,’” said NASAA President Melanie Senter Lubin, the state securities commissioner for Maryland. “What scam artists are so good at doing is tapping into what people are hearing about in the news and then spinning that into whatever investment scam they're trying to promote.”

The number of state enforcement actions involving self-directed IRAs more than doubled in 2020 to 53, according to the organization’s annual enforcement study, which noted that fraudsters often lie to clients by assuring them that any risky investments will be managed or administered by professionals with their best interests in mind. Michael Edmiston, the president of the Public Investors Advocate Bar Association, pointed out that fraudsters could make use of the accounts for selling crypto investments or private placements.

Private instruments including promissory notes have been exposing clients to high fees and commissions and major risks of losses for a long time. Edmiston recalled several massive cases over the years, such as Medical Capital Holdings, the Woodbridge Group of Companies and GPB Capital. What has changed is that state-registered investment advisors are pitching more of the products, posing a challenge to regulators seeking to keep track of some 17,000 RIAs at the state level on top of the 13,000 other firms overseen by the SEC, Edmiston said.

“The area is just so rife with fraud,” he said. “A scheme may not necessarily be a fraud when it starts, but a year or two in, it gets turned into one. For investors, promissory notes are always a big risk. They're always a red flag, no matter what the broker or advisor says about them being safe or sound.”

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At the same time, the rising level of client interest in digital assets and increased use of social media has created another “environment ripe for fraudulent conduct,” said Joseph Borg, co-chair of NASAA’s Enforcement Section and director of the Alabama Securities Commission.

“Fraudsters easily move on to new sites once the fraudulent aspects of one site have been discovered. They often operate out of different jurisdictions from their victims,” Borg said. “Anyone can be anyone on the internet.”

For example, investigators in Texas accused an unregistered advisor last year of pretending to sell clients shares in ARK ETFs when promoting an unaffiliated crypto product with no connection to ARK Invest. A September 2020 case filed by 30 state regulators and the Commodity Futures Trading Commission against a fraudulent gold investment firm doing business as “metals.com” alleged conspirators raised $185 million from more than 1,600 investors who were mostly older people using their retirement savings, according to Joseph Rotunda, the vice chair of NASAA’s Enforcement Section and director of enforcement with the Texas State Securities Board.

“In recent years, as technology advances, a lot of the technological barriers have come down,” Rotunda said. “It's now very easy to get exposure to cryptocurrencies. You can do it on your smartphone in a matter of minutes. … It's a lot easier to spoof a website now. You do not need the technical knowledge that you needed five years ago.”