Identifying and Avoiding Crypto-Centric Ponzi Schemes

NBX Editorial
Nov 9, 2020 · 12 min read

Protecting yourself against crypto-based Ponzi schemes is as easy as following a few simple tips that we’ve outlined here.

As you make your way into the crypto investing sphere for the first time, it’s essential to learn how to protect yourself from all sorts of crypto scams. In our first post in this series, we introduced you to phishing (social engineering) scams and how to avoid them. Because the last year has been the most catastrophic in the history of crypto-based scams, it’s never been more important to get familiar with them in all of their possible forms. For that reason, we’re continuing our series with a cross-section of specific, crypto scams that have been affecting investors worldwide, including in Norway. Unlike phishing attacks, the scams we’ll present below often appear legitimate to newcomers, but end up being Ponzi schemes or something similar. Using the examples we present, you’ll find it easier to understand how to spot this type of scam and prevent yourself from falling under its influence.

What is a Ponzi Scheme?

A Ponzi scheme is an investment opportunity that generates greater returns for its earliest investors, paying them with the capital from later investors. This process continues until those running the scheme can’t pay anyone anymore and eventually run off with whatever profits they have made for themselves as well as all of the investor funds they’re still holding.

These schemes continue to attract investors by promising astronomically ROIs with supposedly little to no risk.

Bernie Madoff’s, Madoff Investment Securities LLC., was likely the most notorious Ponzi scheme in history. For over 40 years, he attracted scores of investors through his reputation as a trustworthy investment professional and his deep connections across Wall Street. Additionally, Madoff reportedly avoided promising returns that were blatantly impossible. While he was convicted in 2008, the fact that he was able to take in billions of dollars over 40+ years and even become the chairman of the Nasdaq shows just how lucrative a Ponzi scheme can be.

Today, Ponzi schemes continue to take shape, even in the cryptocurrency space, to the tune of billions of dollars being lost. For that reason, as the popularity of cryptocurrencies continues to grow, it’s important to become familiar with the common factors of these schemes to avoid them.

How do Ponzi Schemes affect the crypto space?

If you look at the screenshot below from Chainalysis, a leading blockchain analytics group, you’ll see the breakdown of the key types of crypto scams over the past three years, and just how impactful Ponzi schemes were, especially in 2019.

Image Credit to Chainalysis

As you can see above, in 2019, more than $4 billion worth in crypto was lost, largely to Ponzi schemes alone. To understand how we got to this point, however, it’s important to circle back to 2017 and revisit one of crypto’s most notorious Ponzi schemes. From there, it’s much easier to apply a common framework to similar schemes today and develop a set of rules to follow to avoid them.

Bitconnect

Bitconnect was a crypto-based Ponzi scheme that also fit the definition of a pyramid scheme. Truthfully, their con was simple. In return for Bitcoin, they promised astronomical returns due to their supposedly revolutionary trading bot. While Bitconnect wasn’t the first of its kind, it remains the most notorious, because of the sheer number of people it affected and due to the fact that it garnered more than $2.6 billion in illegitimate crypto deposits.

What is a pyramid scheme and how did Bitconnect fit that definition?

A pyramid scheme is a type of Ponzi scheme that starts with an individual or group recruiting several initial marketers to push its so-called opportunity as fast and as widely as they can. These marketers receive bonuses for the number of new investors they recruit to the scheme. The people they recruit then also receive bonuses for those they bring in, those their percentage earnings tend to be smaller. In the case of Bitconnect, this eventually ended up meaning that the earliest investors received 5% commissions on all of the purchases that the people they brought in made, in perpetuity. The next tier of investors received 3% and those after them received 2%, at which point, the rewards were cut off. This sort of process is what leads to the moniker “pyramid scheme,” because it begins with a very small group, while each successive group gets larger until the scheme fails.

For such a scheme to be successful, each tier has to be large enough than the last to pay-out the previous tier with its generated rewards. Otherwise, everything will fall apart like a house of cards.

At this point, you might logically find yourself asking: is there a difference between a plain Ponzi scheme and a pyramid scheme? Typically, in the former, a single public-facing manager or management group runs the show. In the latter, early investors are paid to recruit new investors, who are paid to recruit even newer investors and these rewards are the only true returns that are made. Since today, however, most people treat Ponzis as synonymous with pyramid schemes, we’ll stick with the former term for the remainder of our discussion.

What else made Bitconnect a scam?

First, there’s the listed “up to 40% per month,” which refers to the return on investment that investors are expected to earn in a month. According to a report by The Next Web, what this came down to on a long-term basis was $1000 growing to $50 million within 3 years. This is, of course, impossible.

To reinforce why, consider the S&P 500 for a moment.

On a yearly basis, it historically achieves 10–11% growth, which equates to about 1% per month. Now consider gold, which as many of you know, has been in a powerful bull market since the 1990s. From 2002–2020, in particular, its price has risen from $342.75 an ounce (2002 closing price) to $1946.14 (November 6th 2:09 PM CET). Looking at its yearly average returns over the same period, however, it becomes clear that in the short-term, matters are a lot different and more importantly, significantly more volatile.

As you can see above, gold didn’t experience a meteoric rise until 2019. In 2018, it even closed at a negative yearly ROI. At face value, this is because all commodities are and will continue to be highly volatile due to their usage as hedges against the chaos of other markets. What this means is that if an economic crisis occurs, a wide array of investors will likely flow into gold or something like it. On the other hand, if equities and other asset classes are booming, they are likely to move more into those classes and less into gold, causing it to drop.

Now that you’ve heard the truth about equities and gold, let’s consider Bitcoin itself, which is what Bitconnect claimed to be trading with proprietary software.

Image Credit to BuyBitcoinWorldwide

Using the above screenshot, together with the fact that it charts daily historical average volatility, you can see that for the majority of its lifecycle, Bitcoin has been sitting at around 5% volatility. Put this together with Bitconnect’s promise of 40% monthly returns and it’s easy to see that even one particularly volatile day makes this impossible to attain.

Now consider slippage, which is the measure of the “difference between the price at which a trade is expected and the price at which it ends up being executed.” Because of Bitcoin’s relatively high volatility, its potential slippage tends to also be high, further debunking the possibility that any returns like Bitconnect promised could ever be achieved.

Why did people still buy into Bitconnect?

Bitconnect, like any Ponzi scheme in history, paid out its earliest investors handsomely to attract as many more as they could. The publicity that these investors generated via their Youtube channels and other social media profiles resulted in the first trickle of investors that later became a waterfall. This was because these initial supporters were what are popularly called “shills,” of the Bitconnect project. Generally, a shill refers to someone who constantly speaks or writes about the virtues of an investment opportunity while avoiding mentioning its downsides because they want to bring in more investors to the same investment. In most cases, their motivation for doing so is because they own a large amount of that investment and want to see its value rise.

Bitconnect’s shills consistently posted about the profits they were supposedly making through investing in its native coin, BCC. The truth of the matter was that this wasn’t the case. Judging by multiple reports exposing the scam, the only profits they were making were from affiliate rewards or the money they made bringing in newcomers.

At its height, Bitconnect’s BCC coin reached $463 in December 2017 due to the aggressive marketing of the scam. A month later, however, Bitconnect shut down and shortly after, an investigation was launched by several global entities which later resulted in the arrest of one of its most senior members, among others.

What are the key takeaways from Bitconnect?

First, avoid investment opportunities that promise returns that seem too good to be true. If they seem that way, then they are. Next, if people seem to be jumping at the chance to invest in something simply because of the profits, dig deeper and find out what else could lead to the investment having value or lack thereof. Above all, always do the math. If an investment opportunity promises certain returns, at least calculate them against the average returns of other assets you own.

Bitcoin Era

Now that we’ve broken down the key red flags of crypto’s most notorious Ponzi scheme, it’s time to hone in on scams that are still going on today and how to identify them with their websites. To kick things off, we’ll begin with Bitcoin Era, which is a scam that’s affecting investors worldwide, including Norwegians, today.

Like Bitconnect, Bitcoin Era is a crypto-centric scheme, although it’s not yet clear what sort of returns its affiliates are making because it’s still going on today and doesn’t appear to have been investigated yet. Still, it’s reasonable to expect that it will be.

Looking at the screenshots above, one item that stands out first is the promise of “unlimited” returns and the mention of “some members earning their first million within just 61 days.” First, unlimited returns are definitively impossible. Second, you would have to have traded a vast amount of Bitcoin and sold it perfectly during the most profitable times to earn a million from your efforts at any time horizon or period between buying an asset and selling it. Subsequently, any promise of “free proprietary software” for trading should be treated with suspicion. Real cryptocurrency trading bots do exist but to get quality, you have to pay for it.

Following this, notice that the middle of the landing page states, “Bitcoin is Making People Rich and you can Become the Next Millionaire.” When this is considered with the promise of a minimum profit of $1100 per day as mentioned in the FAQs, it should be blatantly obvious that Bitcoin Era is at least, a get-rich-quick scheme. If that’s not enough for you, think about the promise that you’ll only need “20 minutes a day,” to profit off of their service.

Trading takes time and effort, even with reliable trading bots. Any service that promises otherwise is lying to you. It may not yet be clear what sort of scheme Bitcoin Era is running below the surface, but because European investors are falling victim to it, we thought it necessary to bring its red flags to light.

Bitcoin Evolution

Bitcoin Evolution is another crypto-centric, get-rich quick scheme that’s currently affecting Norwegians as well as other global investors.

Like Bitcoin Era, it’s based around the promise of automated trading software or a trading bot that can provide outstanding returns. Here, though you may not have thought it to be possible, the red flags are even more apparent. Take the top of the screenshot below, for starters. If you were to go to Bitcoin Evolution’s site, then you’d see the same message across the top of your screen as below, stating, “warning: due to extremely high media demand, we will close registration as of 05/11/2020. Hurry.” Now, the only difference is that this date’s changed to one that’s further out in time. Truthfully, this is one of the oldest tricks in the book, which is perhaps most commonly used with “fake gurus” or those that sell get-rich-quick courses or seminars. In both this context and the case of Bitcoin Evolution, the aim is to tap into our primal instinct to act when something is labeled as urgent.

Promising financial freedom as they do, is another trick that scammers use to attract desperate individuals. If these two points didn’t convince you that this is an unscrupulous opportunity, then reading the paragraph at the bottom of the above screenshot will. In it, the promise is made that with the Bitcoin Evolution software, “everyday people, just like you,” can make “thousands of dollars trading Bitcoin and other cryptocurrencies.”

Now consider the below screenshot, in connection with what we’ve just discussed.

In it, you can see that the supposed software is “free” and reportedly has “95%” accuracy. Any time a trading bot is said to have near-perfect accuracy, you should question it as a rule. Because of volatility and other market risks, cryptocurrency trading is a risky endeavor by default and achieving such accuracy is basically impossible.

Above all, if you read the bottom right corner of this web page, then you’ll see a link for “Bitcoin Evolution Scam.” After a quick test, we found that this link redirects back to the original Bitcoin Evolution landing page, which is a surefire sign that it’s a scam.

These tips, together with those related to Bitcoin Era can be applied to vetting the websites of any investment opportunity you’re considering and ultimately deciding if it’s a scam. If you add in the rule of thumb that you should never click links that your antivirus software flags as dangerous, then you’ll be in good stead.

What Can Be Learned from All of These Scams, Together

  1. Whenever early users of an investment opportunity or platform make the most money and these benefits decrease the later someone joins, you should immediately consider the possibility of what you’re considering being an “MLM” or “pyramid scheme.”
  2. You should doubt the legitimacy of any investment opportunity that promises consistent daily returns of any kind, as illustrated with Bitconnect, in particular.

4. Connected to the previous statement is the fact that opportunities that claim to automate trading for you but don’t take into account factors like slippage and volatility as described above are scams. Price reversals are a factual occurrence across all markets and 100% consistent returns don’t happen.

5. Finally, any investment opportunity that tries to get you to buy-in with statements related to you getting rich with little effort or missing out if you don’t act now is a scam as well.

What comes next?

Crypto scams will continue and may get larger as the industry grows.

With this in mind, we hope that this post helps you to feel more confident about identifying and avoiding crypto-based scams of all sorts. As time goes on, remember that we, at NBX, plan to continue to be by your side, providing more valuable content on this subject and others, to paint a comprehensive picture of the crypto industry. If our efforts interest you, make sure to follow this blog. Finally, as always, we’re happy to help. If you have any thoughts or questions about this post as well as others, reach out to us any time here, on Twitter, or our website!

Norwegian Block Exchange (NBX) is a pioneering, forward-thinking, and client-oriented Norwegian cryptocurrency exchange, custodian and payment system. Trade with us at nbx.com, follow us on Twitter or Facebook📲✔️

Disclaimer: Content provided does not constitute financial advice.

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NBX Editorial

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NBX Editorial: The voice of the Norwegian Block Exchange, a pioneering cryptocurrency exchange & payments platform that’s dedicated to the tokenized future.

Norwegian Block Exchange

Norwegian Block Exchange (NBX) is a pioneering, truly Norwegian cryptocurrency exchange, custodian and a payment system. Sign up at https://nbx.com ✔️

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