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Friday, July 17, 2009

Apparent Ponzi Scheme Advertised in Sunday Chronicle, Fraud Investigator Says

Posted By on Fri, Jul 17, 2009 at 11:59 AM

Banking experts qualify the service being hawked in this San Francisco Chronicle ad as a potential Ponzi scheme
  • Banking experts qualify the service being hawked in this San Francisco Chronicle ad as a potential Ponzi scheme

Readers skimming the ads on page D-2 of the Sunday, July 12 San Francisco Chronicle might have been surprised to see an extraordinary investment opportunity in a quarter-page advertisement running a couple columns below Scott Adams' Dilbert cartoon.

"You can now earn: 1 year -- 11.00 percent," the advertisement announces, urging readers to go to a Web site describing "investment notes" offered by a company called Advanta Corp., which owns a bank specializing in handling savings deposits and credit cards for small businesses. The investment offer seemed unbelievable, given that bank savings account interest rates nowadays top out at about 2 percent. Indeed, First Republic bank advertised that modest savings-account rate in a quarter-page ad also on the July 12 business section's page D-2.

"It looks kind of like a CD. It appeals to an older person trying to get a better rate," said Richard Newsom, a retired bank examiner who gained fame as one of the investigators who helped bring down 1980s Savings and Loan villain Charles Keating. "But this is an example of the old standard rule, that if it looks to good to be true -- run."

Newsom has spent the past two weeks poring over financial filings regarding Advanta. And he's become convinced the Chronicle offer is the functional equivalent of a Ponzi scheme. That's when a fraudster solicits investors with no hope of repaying them unless more investor cash arrives.

By this light, Fitch Ratings evaluates the likelihood that Chronicle readers who responded to the advertised offer stood a chance of between 11 and 30 percent of ever even being paid back at all -- let alone earning 11 percent annual interest.

That's because regulatory agencies have all but shut down Advanta's prospects of earning money from savings bank and credit card operations. As a result, according to Fitch Ratings, the company is in "wind-down," or liquidation mode.

The company's fall from grace was spurred by the global financial collapse, which made it difficult for Advanta to obtain money by re-selling IOUs from credit card holders. What's more, Advanta's credit card accounts were closed as of the end of May. The Federal Deposit Insurance Corporation has asked the company to create a plan for withdrawing from the government insurance program -- suggesting the company may lose much of its $1.5 billion in savings accounts. Advanta seems on pace to run out of money within a year. And by Newsom's calculations, the company's only chance at paying back the principal on the "investment notes" -- which are actually corporate debt owed by Advanta -- would be to borrow more money.

"The only way you can do this is like a Ponzi, and grow extremely rapidly. Even using these kinds of ads, and seeking out people who they perceive as the ultimate suckers in the marketplace, you're not going to be able to grow rapidly enough to stay alive all that long," said William K. Black, associate professor of economics and law at the University of Missouri, and author of the book The Best Way To Rob a Bank is To Own One.

Ponzi scheme "Is a title that applies here," said Black, after comparing the Chronicle ad with the details of Advanta's offer.

A message left with the Advanta corporate communications voice mailbox, requesting comment about the Ponzi allegation has not been returned. A Chronicle spokesman said he would not comment on an individual advertiser. But he said each advertiser signs a contract promising that all statements in an ad are true.

Mark Leyes, a spokesman at the California Department of Corporations, which regulates financial services firms, cautioned against applying the label "Ponzi scheme" to an ongoing operation such as Advanta's.

"Unless somebody has inside knowledge that's their intention, it's hard to demonstrate that," Leyes said. However, Leyes noted, the his department's chief of enforcement is aware of the Chronicle advertisement, and has forwarded information about the Avanta "investment note" offer to the Securities Exchange Commission for a possible federal investigation. The SEC's policy is to not comment on ongoing investigations.

The apparently misleading Chronicle ad -- combined with financial filings suggesting that Advanta may not have been candid with "investment note" buyers about the company's precarious financial state -- could lead to a potential federal inquiry.

"If there isn't" an investigation, said Leyes, "this might be enough to start one."

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