Capital Markets Insights

Fraud and the Crowdfunding Model. A Cautionary Tale.

We have all heard the term caveat emptor, Latin for let the buyer beware. All securities offerings come with lengthy legal jargon essentially informing the investor that past returns are no guarantee of future earnings. These rules, however, do not protect the investor from potential fraud.  The first prosecution of a fraud case involving crowdfunding was filed by the SEC in the US District Court of Nevada. The company in question had used several crowdfunding platforms to raise money under the Title II rules of the JOBS Act. The complaint alleges that only a small percentage of the money raised went into the stated investment and was instead funnelled into 'expenses'. So what is a potential investor to do?  The answer is due diligence and investing in platforms backed by real property.

The crowdfunding model is a great way to spread the risk of securities and real estate deals between many investors. Allowing investors to diversify, placing their eggs over many baskets, since crowdfunding platforms generally support smaller minimum investments than was possible in the past. 

However, if you invest in platforms that specialize in real estate, you have the added security of real assets backing your investment. I am not saying that investments in start ups is a bad thing, but the risks are higher. The old risk/return tradeoff still applies. It is great to place a little money into a 'high' flyer. You never know when you will fund the next Uber, but for long term growth and income potential, a well diversified portfolio of real estate crowdfunding investments is the way to go. You can spread your risk over both region and asset class. 

For instance you can invest in commercial and residential real estate in different parts of the country or different countries all together. Since minimum investments are typically $2500 or less, even $10,000 can provide you with a variety of real estate investments to which smaller investors had no prior access.

Regulators and platforms alike are doing their best to prevent fraud in the crowdfunding space but personal vigilance as always is the key.  Invest in areas that you understand and interest you. Things that make sense. Do your research and ask the hard questions. If you don't like the answers than look elsewhere.