Here’s my second installment to the Personal Finance Dictionary. Having a Personal Finance Word of the Day will provide readers a nice, quick, and simple way to understand some common, and not so common, words thrown out there. I’ll provide a quick definition, common uses, and a simple sentence to tie the word together.

The Word of the Day is: Ponzi Scheme

Definition: A Ponzi Scheme is an investment “opportunity” that pays returns to an investor  by using their own money or buy using the money from other investors. The returns are not based on an actual investment or performance. Ponzi schemes usually offer higher rates of return or more consistent returns than conventional investments. The scheme ultimately collapses when authorities step in or too many investors begin to pull out their so called “earnings.” The scheme is named after Charles Ponzi.

Common uses: Ponzi schemes are an elaborate hustle, praying on greed and ignorance. These are most likely to occur in both economic booms and bubbles. Either people get duped into jumping on the band wagon or trying to find ways to manipulate the current downturns. The scheme operator hooks investors with short term returns at an incredible rate, and then hooks them for big and better returns for money held for longer periods. Recently there have been two huge ponzi schemes uncovered, involving what appeared to be legitimate businessmen – Bernie Madoff and R. Allen Stanford.

Sentence: Remember that guy I told you about who was able to take my $1000 and turn it into $3000 in just a month? Turns out he was running a ponzi scheme and now I’m out $5000 I gave him last week. I sure learned my lesson about if something sounds too good to be true, it probably is.