What is a Ponzi scheme?

A Ponzi scheme is characterized as a type of investment fraud that operates under the premise of generating returns for older investors by using the capital contributed by newer investors. This fraudulent scheme creates the illusion of a profitable business operation, leading to a cycle of investment and false returns.

In a Ponzi scheme, funds from new investors are not used for legitimate investments, but instead, they are redistributed to earlier investors as "returns." This creates a façade of profitability and success while masking the reality that there is no genuine investment taking place. Over time, the scheme collapses when it becomes increasingly difficult to recruit enough new investors, leading to substantial losses for the majority of participants who have invested their money into the scheme.

Understanding this definition is crucial for recognizing the red flags of such fraudulent activities, which often promise high returns with little risk. It’s important to be aware that Ponzi schemes can occur within various contexts and investments, and they rely heavily on the continuous influx of new investors to sustain operations until they ultimately fail.