Mindy: Today’s episode is a bit different, and we wanted to give a warning that this episode deals with potentially distressing material dealing with suicide. This conversation may activate distressing feelings for you. If that’s the case, feel free to skip this one. Help is available at the Suicide and Crisis Lifeline by calling or texting 988.
Mindy: Today’s episode is about investment fraud and the steps you can take to ensure it doesn’t happen to you.
Scott: Yeah, we’re going to talk to James Brandolini, convicted investment fraudster turned anti-fraud advocate. James is going to tell us about his own story about how he found himself leading a fraud scheme and about the warning signs of fraudulent investment activity that you should be looking out for.
Mindy: Hello, my dear listeners, and welcome to the Bigger Pockets Money podcast. My name is Mindy Jensen, and with me as always is my anti-fraud advocate co-host, Scott Trench.
Scott: Thanks, Mindy. Great to be here with you. Uh, we’re going to have a serious intro today, and we’re going to tell everybody that we’re here to make financial independence less scary. Less just for somebody else to introduce you to every money story because we truly believe financial freedom is attainable for everyone, no matter when or where you’re starting. And now let’s bring in James Brandolini.
Mindy: James Brandolini, welcome to the Bigger Pockets Money podcast. I’m so excited to talk to you today.
Guest: Very excited as well. Thanks for inviting me, Scott, Mindy.
Mindy: James, on an early day in January, 2011, you walked into the Chicago Dirksen Federal building and turned yourself in. Why?
Guest: So for eight years, I ran a Ponzi scheme, uh, as a trader at the Chicago Board of Trade, running a hedge fund. And during that period, there was never more than a day or two that went by that I didn’t think I could make the money back. Well, after eight years and 3.8 million dollars later, the realization came, I woke up one morning and said, you know, I’m not going to make it back. So I sold my condo and I gave all my possessions away and found an attorney and walked into the US attorney’s office like you said, and said, this is who I am, this is what I did, please arrest me.
Scott: Can you define what a Ponzi scheme is, just for those who, you know, I think most people know it’s it’s an inappropriate activity, but they don’t know the actual definition of it.
Guest: Okay, so technically a Ponzi scheme is everybody knows it is, you know, robbing Peter to pay Paul. So where an operator will be running a seemingly legitimate business where the business plan is dictating, uh, profits that they’re making. In a Ponzi scheme, uh, there are no profits from legitimate trading or legitimate sales or legitimate business. Or maybe a small portion. The profits are coming from new investors who are investing money, and that money is used to either, um, show a lavish lifestyle, show success, and to pay investors dividends and returns on previous investments.
Scott: Yep. So you’re taking the new money from investors and using that to spend on either your lifestyle or pay back the people who had invested earlier. And that’s what that that’s illegal. And that and this has happened many times um uh throughout history.
Guest: It happens every day.
Scott: Okay, great. So, so we’ve defined um Ponzi scheme. Let’s start from the beginning. what how do we set the stage where we be got either, you know, got on the path to being into a Ponzi scheme.
Guest: So, I would say from the very beginning, um, I always wanted to be uh, a trader on one of Chicago’s futures exchanges, the board of trade or the mercantile exchange. And it really started, uh, when I was, uh, at the end of my freshman year in high school with the release of the movie Trading Places with Eddie Murphy and Dan Aykroyd. And just that that that wild trading scene at the end when they’re trying to corner the frozen concentrated orange juice market, that really kind of got me excited about trading. And that’s really all I ever wanted to do. I ended up, uh, running a a trading desk, uh at a now defunct firm called MF Global. And while I was there, I designed a trading program that traded uh Treasury bonds, bond futures mind you and uh really the end of 99 I I had been trading this for a few years and I had decided that I wanted to go out on my own and basically uh started a fund and became a member of the board of trade and I was going to, you know, trade money and do really, really well.
Guest: So in my case, uh, it was really simple. when I became a member of the Board of Trade, before I even started trading for the fund, I was on the floor waiting for the IT department at the Board of Trade to come in and put in my my phone line and all my internet stuff at the desk. and I’m kind of walking around and I have had more than a few a few positions on on the floor. So I knew how it worked. And although I’m trading bonds, which is um slightly less volatile than say the Dow jones or the S&P indices, I was just mesmerized by how the orders coming in from big firms would move the Dow Jones futures market. And I’m thinking of myself, boy, if I could just make a few adjustments to my trading models and I I could raise my, you know, my six and a half, 7% returns trading bonds to 9, 10, 11%, um, you know, trading S&Ps and Dow futures, you know, I’ll be a hero. And really in a matter of probably a couple hours, I decided to do that. I I went to my models, I made some changes, I did some quick back testing and within a week I started trading. So my first week of actually trading for the new fund, I was down about 3%.
Scott: Well, let’s let’s back up, let’s back up just one second here in the story here. So you left, you left your job and set this this this uh fund up. This was in um what year?
Guest: So, in June of ninety nine, I left MF Global and I started a small independent futures brokerage firm called Lloyd Lewis in which I would be able to solicit customers as a broker for this system. Kind of like the intermediate step between leaving the, leaving my the brokerage firm and starting the fund, I would I wanted to be able to kind of test it with real customers as a broker, which means I would only be able to charge commissions. Um, I did that until the beginning of 2003, and then in February of 2003, that’s when I became a member of the Board of Trade and started the hedge fund. And during during that that three-year period, I had a positive track record, which gave me the confidence to go out and and start the fund.
Scott: Awesome. So super helpful here. So you start a fund. Who are your investors? And what is your incentive structure in this fund?
Guest: Uh, the incentive structure was is standard, two two percent 20. So 2% management fee of all the assets every year, and then 20% of profits. And that’s really why someone would start a hedge fund is because they want a a piece of the action, right? So the more profits that you make for clients, the more money that that you can grab for yourself. Um, my clients, uh, really were my my brokerage firm clients that I I had for three, four years, family friends, friends of family. So everybody in my fund I knew personally.
Mindy: We’re taking a quick break, and when we’re back, we’ll hear about how a career at a future’s brokerage turned into a multi-million dollar fraud scheme.
Scott: And we’re back. We’re talking to James Brandolini about the worst decision he made and how it led to him running an investment fraud scheme for seven years.
Scott: Awesome. And how much did you raise?
Guest: About two million dollars.
Scott: Two million dollars. Okay, so 2% of two million is $40,000 per year. That’s kind of like a base salary, right? That’s what a lot of these uh private equity or whatever. It’s a very standard commission model two and twenty for incentivizing folks who manage capital. And that would be, hey, that’s that’s your salary and then you get 20% of the profits. So if if you grow the two million to four million, you would get 20% of the two million in profits, which is really what motivates folks in this type of model. Is that right?
Guest: Absolutely. The, you know, the the management fee is just kind of, you know, keep the lights on and maybe we’ll pay the rent and a few of the expenses, but the where the big bonuses come in is when, you know, is on the incentive side when you can make a profit and grab 20% of that profit.
Scott: Awesome. This is super helpful context setting because again, legitimate trading, making a good profit, track records established, we’re raising a fund and not even I would say even in in in uh 2003, a large a particularly large fund. This is a very standard sized fund. This probably happens every day. um with folks here and it’s with folks you know who have gone to grown to trust you over either a lifetime or over uh several years in the in the professional field. Is that all correct?
Guest: Correct. Absolutely.
Scott: Awesome. Let’s keep going. So what what happens next?
Guest: After the first week of trading, I’m down about 3%. In my documents, uh, I had a a clause that if I was down 3% in any one, uh, in any point of the month, I would stop trading and begin trading the next month. So I had about two and a half weeks before, um, the statements would be prepared and mailed out by a CPA firm that I had hired. And I’m thinking, you know, what am I going to do when, you know, yes, every I know everybody and everybody likes me, but it’s, you know, it’s my first month I’m down 3%, you know, a lot of people are going to pull their their their money out and then what what am I going to do now? Right? And I was just kind of thinking of ways of how how I’m going to, you know, address my initial set of of investors and I’m sitting in an office, uh, with a with a colleague of mine and he’s on the phone and I’m paging through maybe Institutional Investor magazine and the light bulb goes off. I see an advertisement for hedge fund accounting software. And I’m thinking, here’s the answer. Let me buy this software, input everybody’s name into it, send statements for a month or two, I’ll get the money, I’ll show a gain, I’ll get the money back. I mean, I’ve been trading for a long time, right? I mean, I have been trading since college. So I’ve been trading for a long time, I I can make 3% back, no problem at all. And that’s what, that’s what I did. I I sent false statements out, uh that first month thinking that I could make the funds back and and I didn’t. and so we’re looking at minus 3%, minus 5%, minus 10%, minus 20% and so on. So that was really stage one of the fraud. That lasted for about a year and a half. Stage two comes in when I’m, I’m running a little bit low on money and I’m thinking, well, you know, I’m a I’m a sales introvert and I didn’t want to go to my clients and ask them for more money. So what do I do? I, you know, liquidate my 401K, my insurance policy, get a home equity line of credit, and throw my personal net worth into the fund. And that lasted probably almost another year and a half. So now we’re at the three-year mark. And up to this point, you know, it’s it’s it’s civil crime. It’s it’s, you know, making false statements, sending false statements in the mail, but I’ve never I’ve not taken a penny. All all of the trading was legitimate. all the trading, all the losses were legitimate. And it just happened to be, I’m really thinking of how I’m going to get in front of everybody and let everybody know, and are they going to go to the authorities? And they probably will, and, okay, it is what it is. And I get a uh, you know, a phone call from a a random individual who is a friend of a one of my bigger clients and who wants to invest. And he he decides to write a check for $500,000. And I’m thinking, well, here here we go. Now, you know, I’ve got like no money to live on. Now I can at least, you know, take a small illegitimate of course, I I can take money from the fund and and pay business expenses and I can also I can hire other people to to help me fix my models and and make this work. And really from year three to is really where the criminal side of the fraud began from year three to year eight.
Scott: So, so let me just get you know, make sure I I’ve got this right. So we start the fund in 2003. We immediately, first month, have a small loss, nothing, nothing that would have, you know, potentially, you know, set off any flags. Although it’s a point of pride and ego, right? I started this thing off and couldn’t get there. And then that starts the first small lie, which compounds over the course of the next year. But of the next three years, sorry, to this point where it’s about, we’re about to hear the next stage in the story. Um, is and during during that period, you know, what looking back, was it possible? Would it have been possible for you to just have a big month that eliminated all of the problems? Like would that have been? Do you think a lot of that some portion of people who start down that path get saved by that that miraculous month or was it never going to happen?
Guest: Absolutely. I mean, if even, you know, I have losing months that were greater than 3% when I was managing the the money as a broker, right? Uh, you know, we had, you know, four and 5% losing months, uh, not not many of them. uh, and then the market would would would turn around and we’d have, you know, a a couple decent months and then back to kind of normal, and, you know, we we’d stay on track. Um, so to to answer your question, yes, I could have made it back. I was just so darn afraid, uh, Scott, in terms of, you know, what’s everybody going to say? Are they going to pull their money out and I’m going to have to close the fund? You know, I I spent, you know, at that time probably 15, 20 grand just on legal expenses to get all the documents done, etc, etc. You know, what am I going to do?
Mindy: Wow, Scott, that was James Brandolini, the investment fraud guy, and that was a very interesting episode. I don’t know how I would have reacted if I had been investing with him because he had an answer for everything and I mean it really feels plausible that you don’t uh pay taxes until you pull the money out with a hedge fund if you’ve never invested in a hedge fund before. It also seems completely implausible that you don’t pay taxes. Spoiler alert, the government is always going to get theirs. So I I’m glad he was able to share some some bits at the end about, you know, talk to your network, talk to your friends, talk to other people and ask them these questions if it still seems a little hinky.
Scott: I think today’s lesson, today’s interview was a sobering one. It sounds like without being a forensic accountant who’s going to study this stuff for years, it’s really difficult in a practical sense to expect yourself to be able to spot fraud, right? I mean, how you got to call out the audit inconsistencies on there or, you know, go back and do the research for the audit firm. That’s great. Let’s have more people do those kinds of things and make it harder. But these fraudsters are going to be one step ahead in many of these cases, right? Some of the mistakes he made are probably ones that the next fraudster is going to be able to overcome in some of these things. It’s scary because these people don’t start out as fraudsters. I believe that, right? I believe that nobody starts out or very few people start out with the intent to rob people of millions of dollars in this, and that it’s more about, you know, I couldn’t deliver the returns and so I’m going to fudge them and see if I can get back, and then it becomes out of hand and it spirals from there. How many people are legitimate who, or are seem legitimate today, who went down that path but won and had that good month that saved them and were able to get back out of that that spiral that led to James’s Ponzi scheme? You know, how many people are are in the process of that right now pretending like they have that? It took eight years for this thing to be exposed. It’s so scary. right? People thought they were with like millions there was $100 million more in the fund than there was in there. It’s it’s just I think the lesson is you you never know and you can’t concentrate all your bets in one area in these kind of unregulated or private syndication or hedge fund opportunities and you always got to have in the back of your mind that no matter who you’re working with, this is a possibility and that your you’re just acknowledging that if you’re going to get into any of these private investing spaces and try to make it as difficult as possible for someone to do that, especially if you’re with them for a long period of time and the returns seem great the entire time. Maybe that’s the lesson.
Mindy: Well, and you just said something, Scott, you said, it took eight years for it to be exposed. It wasn’t even exposed. He turned himself in. Nobody caught on to this.
Scott: Absolutely. Well, on that note, yeah, um,
Mindy: I am very thankful that he came and shared this story with our listeners today so they can start to think about what’s going on in their investments if they have hired somebody to take care of them. So, ask questions and if you don’t like the answer, keep asking until you understand what they’re saying or until you uncover something. I hope you don’t uncover anything. Keep asking until they until you understand what they’re saying. That’s where I’ll stop. All right, Scott, should we get out of here?
Scott: Let’s do it.
Mindy: That wraps up this episode of the Bigger Pockets Money podcast. He, of course, is the Scott Trench, and I am Mindy Jensen saying, toodle-loo, Yorkipoo.
Scott: If you enjoyed today’s episode, please give us a five star review on Spotify or Apple. And if you’re looking for even more money content, feel free to visit our YouTube channel at youtube.com/biggerpocketsmoney.
Mindy: Bigger Pockets Money was created by Mindy Jensen and Scott Trench, produced by Kailyn Bennett, editing by Exodus Media, copywriting by Nate Weintraub. Lastly, a big thank you to the Bigger Pockets team for making this show possible.
