THE SIMPLE TRUTH ABOUT INVESTMENT PROFITS

Tan Liu

QuantStyle Publishing

Delaware
Copyright © 2017 by QuantStyle Publishing

www.ThePonziFactor.com

Published in the United States by

QuantStyle Publishing
Lewes, Delaware 19958 US

Book Design ©2017 QuantStyle Publishing

ISBN 978-1976949951

The Ponzi Factor: The Simple Truth about Investment Profits/ Tan Liu. —
Edition 1.3.

Originally published in February 2018. Updated in October 2020.

All rights reserved. This book may not be reproduced in any form without
permission, except in the case of brief quotations embodied in critical re-
views and certain other noncommercial uses permitted by copyright law.

The Ponzi Factor is a nonfiction book that describes what the Author wit-
nessed and observes in the investment finance industry. The majority of the
data are from primary sources.
All truth passes through three stages.

First, it is ridiculed.

Second, it is violently opposed.

Third, it is accepted as self-evident.

― Arthur Schopenhauer
 Table of Content

PREFACE:

INTRODUCTION: 1

CHAPTER 1: A-CRUEL ACCOUNTING 17

CHAPTER 2: THE BACKBONE OF THE INDUSTRY 45

CHAPTER 3: THE IDEA OF INVESTING 51

CHAPTER 4: A LEGITIMATE IDEA 69

CHAPTER 5: THE UNIVERSAL ERROR 87

CHAPTER 6: THE STOCK MARKET 97

CHAPTER 7: TWO PATHS 125

POSTFACE: 145
SUPPORT: 151
LEXICON 153
ENDNOTES 157
REFERENCES 165
AUTHOR 173
 PREFACE

"The truth does not require many words. It’s the lies that
demand elaboration."

The Ponzi Factor is the most comprehensive research ever

compiled on the negative-sum nature of capital gains—the
money people make from buying and selling stocks. Unlike
other finance books, this book does not assume stocks are
ownership instruments. It investigates the ownership assump-
tion and asks, “Why are stocks ownership instruments if the
owners never receive money from the companies they own?”
History shows that the association between stocks and
ownership came through dividends—a profit-sharing agree-
ment between the shareholders and the businesses they
owned, which is also why all stocks paid dividends before the
1900s. The idea of non-dividend stocks is a new concept that
came about over the past century. At some point, the academ-
ics and regulators decided it was okay for companies to issue
stocks and avoid paying their investors indefinitely. But their
acceptance of this new form of ownership—Ponzi assets—was
through tradition (and possibly corruption), but not with any
research or logic.
The sad truth is, people in finance do not study history and
don’t know the difference between a value that comes from
the exchange of money (a cerebral idea) and the money that is
being exchanged (a possessable item). The product of this ig-
norance is a system and culture that treats Ponzi assets as own-
ership just because they’re printed by a company. It doesn’t
matter if the company makes money, losses money, pays noth-
ing, or prints as many shares as they want. If a company prints
it, it’s ownership. This kind of shoddy logic doesn’t work in
other industries, but it is the norm in finance.
 The Ponzi Factor is one of the shortest finance books ever
published, but it also debunks the foundational ideas in text-
books. The concepts in this book are based on self-evident
logic, observable facts, and history, which is why it can be un-
derstood by anyone, from any background, at almost any age.
If a kid is mature enough to run a lemonade stand, that kid will
understand the information in this book. You will enjoy this
book if you are a curious person because it will reconnect you
with your intuitive understanding of ownership. But if you are
a finance junky who thinks stocks are ownership and you don’t
care why…Then you’re not going to like what you learn.
This October 2020 update will include this preface and a
postface to briefly address the government’s response to the
coronavirus. The manuscript itself will not have any updates
and remains unchanged from the version that was released in
2019. The main thing I want to address is that The Ponzi Factor
was written under the assumption that the government and
regulators were ignorant or neutral, but not dirty. However,
the government response to the coronavirus showed that the
SEC, Federal Reserve, and Treasury are dirty cops who will do
whatever it takes to keep Ponzi assets from collapsing. We
need to acknowledge the system for what it is: unfair and un-
ethical. But we should also think about how to live with it.
Ponzi assets might not be ownership, but the U.S. govern-
ment is backing them. They’re not going anywhere for the fore-
seeable future, so do what you want with them. By the end of
this book, you will understand exactly how stock prices are de-
rived and why finance degrees and the concept of valuation are
complete bullshit. This can help you make better gambling de-
cisions because you’ll know how to filter out the industry’s
noise. Ultimately, I don’t care what people do with their
money. I just want them to know the truth about how the stock
market works.
 INTRODUCTION

THE MOST DANGEROUS IDEAS ARE THOSE THAT

ARE TRUE

Read the literature, but don’t read too much of it. Read a
bit to notice something that everybody is doing wrong.
Something that just doesn’t feel right. Read enough to de-
velop your intuitions, and then trust your intuitions. Don’t
be too worried if everybody else says it’s nonsense.

But, there is one thing…If you think it is a really good idea,

and other people tell you it’s COMPLETE NONSENSE. Then
you are really onto something.
— Deep Learning AI Pioneer, Geoffrey Hinton

FOR A MOMENT, IGNORE EVERYTHING you know about stocks, the

investment system and everything that took place over the
past 400 years. Imagine yourself in the early 1600s at a time
when no one knew what stocks were yet, but they were about
to be introduced as a new investment instrument. You’re going
to hear two proposals, and I want you to think about how the
early investors would have reacted to the introduction of
stocks.
 Proposal One:
A business owner approaches a group of investors and
says, “I’m selling shares of my company. If you invest in
my business, you’ll receive a note that says you own a
piece of the company, and if the business makes money,
you’ll receive a share of the profits.”
Proposal Two:
A business owner says to a group of investors, “I’m sell-
ing shares of my company. When you invest, you’ll re-
ceive a note that says you own a piece of the company.
However, you won’t receive any money from the busi-
ness, and the company is not obligated to pay you any-
thing, ever. But, you can make money by selling the note
to other people. You might get lucky and get more than
you paid.”
Now, which proposal do you think early investors would
have considered, and which do you think they would have
avoided? Which one sounds like a legitimate business invest-
ment, and which one sounds like a shady scam?
History shows that when stocks were first introduced to in-
vestors, they were designed to perform like investment pro-
posal number one, where companies paid dividends and
shared profits with investors. But today, the common stocks
that are being issued to investors behave like proposal number
two, where shareholders receive nothing from the business,
and the only realistic way investors can make money is by sell-
ing their shares to other investors.
One of the biggest myths about stocks is the idea that prof-
its from stocks come from the earnings and growth of the un-
derlying company. The assumption is, when a company makes
money, they share the profits with their investors. But in prac-
tice, most public companies never pay dividends, and when

2
they make money, which can be millions or even billions, they
keep everything.
The simple truth is, profits from stocks come from other in-
vestors who are buying and selling stocks. When an investor
buys a stock for $10 and sells it for $11, that $11 comes from
another investor, someone who will then start hunting for yet
another investor who will give him or her $12, and so on.
This is actually a negative-sum situation because the under-
lying company isn’t involved in the transaction. The investors
are just cannibalizing each other for profits, and there are fees
attached to every transaction.
It’s one thing if everyone acknowledges this negative-sum
gambling scenario and people just want to gamble. But the
stock market is sold as a positive-sum investment system, and
investors believe the system produces more money than they
contribute. This is why most of the money that goes into the
stock market comes from pension plans and retirement funds,
and why 18-year-old kids are allowed to open online trading
accounts.
Finance professionals will rationalize that it’s not all about
the cash, but also about investing in the hypothesized intrinsic
value of the companies and point out how the US stock market
has grown to more than $36 trillion in value. Now, this would
be a valid argument if we lived in a world where investors buy
stocks for the sake of having stocks and never want their
money back. But the last time I checked, investors do want
their money back. People don’t buy stocks because they love
stocks and think: I love my shares of Google. I want to hold their
stock forever and never get my money back.
No. Investors buy stocks because they want to make
money—and their only objective is to get more cash out of the
system than they put into it.

3
 Investment finance is different from other businesses be-
cause everyone involved—from the bankers to the analysts, to
the advisors, to the investors and the companies that need in-
vestments—all want one thing and one thing only: cash. This is
not the case when we look at a normal business like a restau-
rant. The restaurant that sells food wants cash, but the people
who give the restaurant cash are end-users who want food in
return, not more cash. This simple and essential fact is why the
logic of investing is incredibly illogical.
When it comes to stock transactions, the person selling the
stock wants cash, but so does the person who is buying the
stock. There are no end-users. Everyone involved wants more
money back than they contribute, and no one pays attention
to where the money is coming from…It’s probably because no
one wants to know where the money is really coming from.
The problem is, the money investors take out of the system
is coming from other investors who are putting money into the
system, and the stock market is just a system that shuffles cash
between investors. It is a system where current investors’ prof-
its are strictly dependent on the inflow of money from new in-
vestors. And, such a system is also known as a “Ponzi scheme.”
Most people understand that a Ponzi scheme is a scam, but
what most people don’t realize is that a Ponzi scheme can also
produce a lot of winners. It’s not a scam where everyone loses
money. A lot of investors who are involved—and unaware of
the scam—can make money too. Bernard Madoff ran the
biggest Ponzi scheme to date. After his $50 billion scam was
exposed in 2008, investigators found that more than half of his
accounts realized a profit. The total amount of money lost in
his scam was greater of course, but as far as the accounts were
concerned, more than half of them actually realized a net
profit.

4
 The fraudulent aspect of a Ponzi scheme is not its inability
to produce winners. The issue is in the mechanics and where
that money comes from, and how investors who make money
are taking it from other investors who also want to make
money.
One thing that tends to be true about Ponzi schemes (and
scams in general) is that there’s always something about the
scenario that looks too good to be true.
The chart below is for Tesla Motors from 2010–2018. It
shows how their stock shot up from $20 a share to over $380 a
share during this nine-year period.
Question: How much money do you think Tesla made
during this time? No need to think of an exact number.
But do you think they made a lot of money…or a little?

Answer: Tesla lost $6.1 billion. Tesla didn’t make any

profit. They didn’t break even. They lost $6.1 billion dur-
ing this period.

5
 Now, this is interesting SEC 10-K: Consolidated Statement of Operations
Tesla Motors, Inc.
because the early investors Year Annual Net Loss (in thousands)
who bought into the com- 2010 (154,328)
2011 (254,411)
pany in 2010 could have 2012 (396,213)
made a lot of money while 2013 (74,014)
the company they owned 2014 (294,040)
2015 (888,663)
actively bled out $6.1 billion. 2016 (773,046)
But how can that logically 2017 (2,240,578)
2018 (1,062,582)
happen?
How is it possible for investors to walk away cash rich in
profits with real money in their hands when the company they
invested in never made any money?
In a legitimate investment scenario, that can never happen.
Investors should only be able to make money when the com-
pany they invest in makes money. However, a situation like this
can occur if the early investor's profits are dependent on cash
from new investors, rather than the performance of the under-
lying company.
If you asked people in finance how Tesla’s early investors
could have gotten rich while their company lost billions, they
will respond with something vague and infallible like:
“The market trades on future information.”
“The price of a stock is a reflection of future earnings."
"The company has value and Tesla’s going to make
money in the future.”
The Philosopher Karl Popper calls these unfalsifiable
statements and classifies them as empirically uninformative
pseudoscience ideas that cannot be proven right or wrong. And
in this case, they also assume there are people who can see
into the future. Financial professionals are masters at giving
unfalsifiable answers, but what they will never allude to is the
clear and provable fact that Tesla’s investors’ profits came
from other investors. And the reason why they don’t want to

6
acknowledge the obvious is because they don't want to think
of the stock market as a system that shuffles money between
investors, just like a Ponzi scheme.
I didn’t sift through hundreds of companies to find an ex-
ample like Tesla. I just thought of some popular companies that
everyone probably knows, checked to see if they had a nice-
looking chart, and looked into what they reported to the Secu-
rities Exchange Commission (SEC). Tesla was the second com-
pany I investigated to find such an example.

IF THE STOCK MARKET IS SIMILAR TO A GIANT PONZI SCHEME, then

why are there so many textbooks on stock analysis? Why is it
taught in schools, and why do finance academics and profes-
sionals treat it as something legitimate?
Do not underestimate the power of fallacies.
The sad truth is, falsehoods and immoral practices can be
treated as normal and routine and persist for centuries before
corrections are made. Remember that it took humanity thou-
sands of years to realize that human slavery is a barbaric prac-
tice that is not essential to a functioning economic system.
The investment finance industry, especially the portion that
deals with stocks, is primarily built on fallacies. The reason why
finance professionals do not see the stock market as a Ponzi
scheme is because they believe the credibility for an idea rests
on repetition, tradition, and people who recite it, rather than
proof, logic, or facts.
The FIRST fallacy and I believe the most fundamental false-
hood that leads to other false ideas, is the notion that stocks
are equity instruments that represent ownership.
Finance professionals will argue, “The stock market can’t be
a Ponzi scheme because the value of a stock represents value
in a company, and ownership instruments are being exchanged
in the transactions.” But, there’s practically no truth to this idea

7
because the value of a stock has no legitimacy. It is just an ar-
bitrary number derived from a Ponzi-exchange process, and
the value is not backed by anything.
A share of Google can trade around $1,100, but Google ex-
plicitly states in writing that the par value of their stock is only
$0.001. Google also says they do not pay their investors any
dividends, and their Class C shareholders have no voting rights.
So, if you own a share of GOOG, you won’t receive any money
from Google’s business activities, you won’t be allowed to vote
on any corporate issues, and Google isn’t obligated to pay you
anything more than $0.001 for that share you bought for
$1,100.
Does that really sound like a legitimate ownership instru-
ment?
If I mailed you a chair that was missing three legs, the seat
cushion and the backrest. Whatever I sent you, can I really call
it a chair? 1

For a value to have legitimacy, there must be someone or

something in place to back that value. The value of the dollar is
backed by the United States government. The value of a house
is backed by the intrinsic physical value of the house itself. But,
the value of stocks is not legitimately backed by anyone or an-
ything. 2

The idea that today’s common stock represents the real in-
trinsic value of a company is a baseless and unproven idea, and
if people are selling such an idea to make money, then it is also
a fraudulent idea.

* The analysis of the stock market is based on observable scenarios that are
foreseeable in practice. It ignores hypothetical scenarios and unforeseeable
actions—such situations are speculative and usually immaterial.
* The analogy with the chair was inspired by a line from Lee Smolin’s book
The Trouble with Physics.

8
 The reason why stocks are assumed to be equity instru-
ments comes from history and what was described in proposal
number one.
Before the 1900s, stocks paid dividends. History shows that
stocks were designed to be legitimate equity instruments with
a profit-sharing agreement between the shareholders and the
companies they owned. Capital gains; the Ponzi profits from
other investors in the buy low, and sell high gamble was meant
to be a secondary form of profit. It was never meant to be the
primary or only way for investors to make money. Stocks were
not intended to be Ponzi assets that are destined to be shuffled
between investors indefinitely, but they mutated in a very dis-
turbing way over the past century. Finance people refer to
stocks as “equity” instruments, but it’s nothing more than an
artificial label. Today’s stocks are fundamentally different
things from the equity instruments they once were.
The SECOND fallacy, which is a product of the first fallacy is
the idea that an asset value is the same thing as cash. When
people see a share of Google that’s trading at $1,100, they’ll
just assume that’s $1,100 in real money. However, an asset
value that comes from the exchange of money is fundamen-
tally different from the money that is being exchanged.
The value of a stock is a cerebral idea. It is a figment of our
imagination, which is why the price can rise and fall sharply at
any given moment. The value is not backed by anyone, which
is why investors don’t know how much their stocks are backed
by or when they will see that money. But what we do know is
that if someone buys a share of Google for $1,100 and it drops
to $900, Google will not make up that $200 difference and
Google has no obligations to pay that person anything close to
$900 either.
On the other hand, real money is an instrument for trade
that is designed to serve as a medium of exchange for goods
and services. It is in both physical and electronic form, and for

9
the most part, it is finite and traceable. You can carry it in your
wallet or store it under your mattress. It is legal tender that is
issued and backed by the government. It is what investors ulti-
mately care about and want, and why companies like Google
need to print stocks to get legal tender.
As of June 2019, the NASDAQ and NYSE had a combined
value of over $36 trillion and growing—and here I am, writing
a book about the imminent demise of the stock market. The
reason why this astronomical number and potential future
market growth doesn’t concern me is that a $36 trillion market
value means investors believe they are entitled to possess $36
trillion in real money. But there is only $1.7 trillion of cash cir-
culating in the US economy, and $3.3 trillion in existence in the
entire US economic system, which includes the money in your
wallet right now.
Cash and asset value are nothing alike. They are from two
entirely different worlds of our reality and $36 trillion of stock
value = $0 in real money. If the $36 trillion of market value, or
even a fraction of it, had any truth to it, we should be able to
close the market tomorrow and send investors home happy
with their stocks and all that value. But we all know what would
really happen. If the market closed tomorrow, every investor
holding stocks would be in a world of hurt trying to realize the
value of their stocks without the inflow of cash from new in-
vestors. Stocks are priced in terms of cash, but they are virtu-
ally worthless unless they can be converted into cash.
The THIRD fallacy is the idea that the stock market is posi-
tive-sum for investors and the system produces more wins
than losses. This idea is essential to the existence of the invest-
ment finance industry because it lets finance firms label their
products and services as investing rather than gambling.
However, the positive-sum idea is an unproven assumption.
The obvious way to validate the positive-sum assumption is
by adding up all the money investors have won and lost over

10
the years and see if that sums up to something positive. But,
that’s not possible because no one knows how much money
people have lost. There are no databases that track investor
losses, and no one knows how much investors have been win-
ning or losing over the years.
Another way to validate the assumption is to follow the
cash flow of a typical stock transaction and see how the money
that enters the system can exceed what investors contribute.
But, we did that earlier, and it shows a negative-sum scenario.
The main reason why people think the stock market is pos-
itive-sum is that they believe in the second fallacy, and think:
People must have made money because the stock market has
grown to $36 trillion.
But a real positive-sum situation needs to consider the wins
and losses of all the investors, not just the early investors but
also the last investors—those who are holding $36 trillion of
imaginary money that doesn’t exist.

I STARTED MY CAREER PASSIONATELY watching CNBC and studying

stocks at a hedge fund. I believed in the investment system,
and I still believe there is a need for financial services from
banks, savings and loan programs, insurance products, and tax
advisors. There are legitimate investment activities that in-
volve tangible assets like real estate and debt instruments like
bonds, which are also used to help businesses raise capital.
There is value in the efficient allocation of capital. But there
is a massive difference between agents who help connect in-
vestors with companies and agents who make commissions by
shuffling money with imaginary instruments. There is some-
thing fundamentally wrong with the assumption that we can
create an infinite amount of imaginary paper like stocks, which
have no legitimate promise of repayment from anyone and

11
turn those stocks into real cash or tangible assets, which are
finite and limited in quantity.
My skepticism of how the investment system works started
in school. Classes on economics that talked about the benefits
of trade, exchange of knowledge, and debt instruments all
made sense. Those ideas weren’t perfect and always produced
both winners and losers, but the logic behind why those ideas
could net more winners felt reasonable. And more importantly,
as imperfect as some of the ideas are, they were still trying to
address real problems that arise naturally, like how to feed a
growing population with limited resources.
In contrast, finance academics try to solve artificial prob-
lems created by other people in finance. There’s nothing or-
ganic about the stock market and situations where investors
can make money while the company they owned lost billions.
When it came to classes with topics involving stocks or other
forms of synthetic financial instruments, something about the
logic always felt wrong—as if something deep and fundamen-
tal was completely missing. I saw a lot of dollar signs in text-
books representing the value of stocks, but I also knew that
stocks are fundamentally different from real dollars. You can’t
take a share of Google to the grocery store and get food with
it. But when the books attached the dollar sign to asset values,
it made it look and sound like you could, and something just
didn’t feel right about that.
At first, I just ignored those concerns because they seemed
so basic. It was unimaginable to think that a prestigious indus-
try like finance, with so many well-educated people, could be
going about their day-to-day activities without acknowledging
the difference between an imaginary asset value and real cash
currency. I just assumed that all those smart people on Wall
Street must have known what they were doing and thought:
They are experienced, and I’m just a novice. I must be missing
something. I’m sure I’ll figure it out later.

12
 But the more I learned about the investment system, the
more I realized that these simple, fundamental questions are
completely unanswered and brushed off as unimportant. The
industry focused on developing sophisticated asset pricing
models and other convoluted ideas built on top of layers of
complications and assumptions. But basic foundational ques-
tions—like "Is the stock market even positive-sum for inves-
tors?" and "Are stocks even legitimate equity instruments, to
begin with?"—were ignored entirely and didn’t interest any-
one either.
It wasn’t easy to accept at first, but over time, it became
impossible to ignore and deny. The industry is built on the fun-
damental assumption that money can grow on trees and that
it is possible to create cash by shuffling ambiguous promises.
Yet they never did anything to validate this assumption.
The author Michael Lewis did a remarkable job exposing op-
erational fraud through his books The Big Short and Flash Boys.

13
His books shed light on the inner workings of elaborate and
complex deceptions in the industry.
My goal is to explain one pure deception that makes up the
infrastructure of the industry—something obvious, but some-
thing we’ve all been taught to ignore. This book is not just an-
other story about how some people in finance pulled off yet
another scam. Nor is it about how banks and complex systems
are broken and riddled with conflicts of interest. Instead, it will
elucidate something far more fundamental—the origin of in-
vestment profits—and show why the stock market itself, even
in the absence of insider trading and other headline-worthy
crimes, is a scam at the foundational level.
I am certain the reason we have highly improbable market
crashes—which can instantaneously wipe out trillions in mar-
ket value—and an endless list of compliance and economic is-
sues is because systems like the stock market are not
legitimate structures, to begin with, and it is not designed for
investors to prosper.
I think everyone can agree that there are two inherent char-
acteristics when it comes to a scam. One, someone made a lot
of money. And two, something about the scenario doesn’t
make sense. Tesla’s stock shot up from $20 to more than $380
a share, so someone made a lot of money. This also happened
while the company lost $6.1 billion. You be the judge.
If the stock market is similar to a giant Ponzi scheme, and
it’s as obvious as tracing the cash flow of a typical stock trans-
action, then why is it legal? Why are companies allowed to is-
sue Ponzi assets, and why are finance professionals allowed to
sell them to investors?
Where are the regulators and why aren’t they doing any-
thing about this?
Unfortunately, I have no answer for this. I do not know how
the SEC can ignore such apparent issues. My best guess is that

14
the regulators are either in denial, confused, or just plain stu-
pid—and I use the word “stupid” with great care and caution.
If you look at the SEC’s website, you will find blatantly con-
tradictory information. In one area, they define a Ponzi scheme
as:
“An investment fraud that involves the payment of
purported returns to existing investors from funds
contributed by new investors.”
But in another area they advertise the following as a way
for investors to make money with stocks:
“Capital appreciation, which occurs when a stock rises in
price.” 3

From my experience, the biggest scams are legal in practice.

It’s the stuff that regulators and newspapers do not focus on
because they are constructed from the ideas taught at univer-
sities and treated as quotidian positions in the job market.
Those who engage in these activities do not look or sound like
criminals. They have beautiful offices in prime locations and
advanced degrees from respected schools like Harvard, UC
Berkeley, MIT, and the like. They are female, male, young, old,
Asian, White, Black, Hispanic, Middle Eastern, etc. They have
great work ethics, and most of them are not bad people. But
good people can do bad things without realizing it—and intel-
ligent people can choose to remain ignorant of their own real-
ity.
People are much too intelligent to be brainwashed, but we
can be miseducated, and it’s tough to unlearn something after
we’ve learned it. The real problem is not Wall Street, which

*For people who are unfamiliar with stocks and missed the irony: What the
SEC defines as capital appreciation can only be realized through the process
of investors buying and selling stocks and exchanging money with each
other—which is exactly how the SEC defined a Ponzi scheme.

15
represents the finance industry at large, but the universities
that teach unproven ideas, so people can work on Wall Street.
Finance professionals have been programmed to think of im-
aginary instruments as things with real intrinsic value. But it is
the universities that are programming these false ideas with-
out validating them.
A great inspiration for why I decided to write this book is Dr.
Nassim Nicholas Taleb. His book Fooled by Randomness helped
flip a switch in my head and changed the way I thought about
the industry. I read the book in 2008 while I was working for a
hedge fund that was racking up fictitious, but legal, accrual ac-
counting profits while the financial system at large was on gov-
ernment-funded life support. Dr. Taleb’s book validated a lot
of what I already suspected about the investment industry. But
the thing that really hit home was knowing that there was
someone else out there who didn’t think like the rest of the
industry did—and realizing that sometimes the entire world re-
ally is crazy. Just because you think differently doesn’t mean
you are wrong.
My critics will say this is the work of a conspiracy theorist,
and my words are more likely to bring trouble than success.
But, the annoying thing about truth is, it’s hard to ignore after
you see it… And, it really bothers me when our world’s biggest
scam artists are lauded as the world’s wisest investors and in-
novators. Now, the nice thing about truth is, it’s not concerned
with criticism. Truth is grounded in logic, and logic will trans-
cend the test of time. Whether people realize the truth today,
tomorrow, or centuries from now, the truth in these pages will
be realized because knowledge evolves towards what is true.

16
 CHAPTER 1

A-Cruel Accounting
YOU DON’T HAVE TO MAKE PROFIT TO REPORT
PROFIT

April 27, 2010: Goldman Sachs hearing before the Permanent Subcommit-
tee on Investigations.
Senator Tom Coburn questions Goldman Sachs’s CFO David Viniar about
how his firm recorded $12.9 billion of government bailout money.
Sen. Coburn: In the year it should’ve been paid, but it wasn’t. It was
paid later, so that should’ve enhanced your revenues by a certain per-
cent, a number of billions of dollars. Is that correct?
David Viniar: Eh…no…the eh…
Sen. Coburn: You didn’t recognize the payoff ($12.9 billion) from
those insurance products to you as revenue when you got it from AIG?
David Viniar: No, we did not. That position is marked to market…they
were just basically paying us the money they owed us. But because we
mark all our positions to market, that revenue had come in already.
“That revenue had come in already?”
How did Goldman Sachs collect the money AIG owed them before AIG re-
ceived the money to pay them?
 The Ponzi Factor

Someone once asked me, “What would you say are the
things that surprised you most about working in finance?”
I responded, “First of all, there is no certainty in what we
do. Ever. You can make or lose as much in a day for investors
as you can in a year.” Then, I paused, thinking hard about how
to express the third point as simply as possible, and finally said,
“And there is a difference between making a profit and ac-
counting for it.” 4

I ARRIVED IN LOS ANGELES in late 2007 hoping to get a job in quan-

titative analysis. By this time, I had already worked for a hedge
fund that collapsed in Fairfax, VA, and a trading firm out of
Shanghai.
My first two interviews were with Washington Mutual and
Bernstein Alliance. From the preparation interviews with the
headhunter to the actual interviews with the office managers,
I could tell that sales—convincing others to hand over their
money—was going to be a more significant focus than re-
search. There were a lot of financial advisor positions in LA, but
analysis jobs were hard to come by. However, I did have a
warm lead that I was planning to explore.
My former boss in Virginia introduced me to a hedge fund
called HB Onyx in 2006. They had an office in LA, and I was al-
ready working with them on a commission basis concerning
raising capital for their fund. I wasn’t counting on them for a
job but knew it was only a matter of time before we met in
person. I also knew their strategy had been generating around
18% annual returns, and their fund grew from $20 million to
over $100 million in the previous two years. So, they were
probably hiring.

*Aliases were used for certain people and firms in this chapter.

18
 I had lunch with Leonard, a young French gentleman in his
late twenties who had started working for HB Onyx at the same
time I started with my old fund in Virginia. He showed me
around their offices at what was then called the Wachovia
Building on Federal and Wilshire. They were in the process of
renovating a much larger space on a higher floor as well as hir-
ing people for all kinds of positions, including analysts.
He talked about how much they had grown over the past
year and how much money they were managing. He was ex-
tremely proud of where he was and what they achieved. I still
remember him saying, “We’ve accomplished so much already.
If we can do all this when we’re this young, imagine what we
can do when we get older.”
It felt humbling.
We were two professionals reconnecting but at very differ-
ent levels. A year and a half before, we had both been entry-
level people starting our careers at small hedge funds. I even
wrote a letter to the State Department explaining the kind of
work we did to help Leonard advance his visa status. Now, I
was still looking for an analyst job while he was a junior partner
at a hedge fund and in charge of hiring analysts.
What a difference a year makes when you work for the right
fund.
I went home after lunch, sat in front of my computer for a
while, and said to myself, “It doesn’t matter where I am now
but where I am going.” I wrote a humble email to Leonard, ask-
ing HB Onyx to consider me for one of the analyst positions. A
week later, I interviewed with the senior partner Walter, and
HB Onyx welcomed me to their team.
I was thrilled to be a part of it!
HB Onyx was a fast-growing firm with smart, ambitious peo-
ple I could learn from, and I believed they could provide an en-
vironment for me to grow. I even had a dream a few weeks

19
 The Ponzi Factor

after I started, where one of the top investment banks (I think

it was Goldman Sachs) offered me a job in LA, but I turned it
down because I thought HB would provide more growth op-
portunity for my career.

WHAT APPEALED TO ME most about HB Onyx was their strategy.

I actually believed they could deliver what they were selling: an
investment strategy that helped people make money with a
high degree of certainty.
HB Onyx was involved in a premium financing strategy that
dealt with an esoteric market called life settlements (LS) where
investors invested in life insurance policies. Investors in the LS
market purchase life insurance policies from insured individu-
als for a lump sum of cash. After they own the policy, the in-
vestors will continue paying premiums to keep the policy active
and, when the insured passes away, collect the death benefit
as payment for the investment. Investors buy the financial in-
terest in the policy, but the insured’s name and time of death
is still the determining factor for when the policy will pay out.
The concept is essentially a gamble on the insured’s mortal-
ity. The sooner the insured passes away, the quicker the inves-
tor can collect the death benefit from the insurance company.
The longer the insured lives, the more the investor will have to
pay in premiums to keep the policy active.
Unlike stocks where anyone can create a company and issue
billions of shares, unwanted and active life insurance policies
for elderly individuals in their seventies are extremely hard to
come by. Usually, if someone did have a policy at that age, they
probably had it for a while and wanted to keep it. And if they
didn’t have a policy, chances are they just didn’t need one or
want one.
A genuine life settlement policy might end up on the market
with a scenario that looks like the following:

20
 A father in his forties buys a life insurance policy to protect
his family financially in case he passes away unexpectedly.
Fast-forward thirty years and nothing unexpected has hap-
pened, the kids are all grown up, working—financially se-
cure—and with families of their own. Dad is retired and
doesn’t need the policy anymore. At this point, he just
wants to stop paying premiums on the unwanted policy. He
has a few options, one is to cancel the policy with the insur-
ance company, and another is to sell it to an investor in the
LS market. The only thing the insured cares about is not pay-
ing premiums, and both options can achieve that.
As you can imagine, these scenarios are rare, which is why
genuine LS policies are scarce.
The life settlement market was booming in 2006. There
were a lot of investors with cash but not enough policies for
sale on the market. According to HB, these policies were in
such high demand that investors were buying them for twice
the cost of the premiums required to take out a policy. This
means if someone purchased a life insurance policy with $5
million worth of coverage/death benefits, and paid $400,000
in premiums for the first two years, investors were ready to buy
that policy for $800,000 when it hit the market.
If you can take out a policy for $400,000 and sell it for
$800,000, you would want to take out and sell as many as pos-
sible. But again, life insurance policies, unlike stocks, cannot be
created or replicated with ease.
Finding elderly insured individuals with a lot of coverage
they no longer needed was difficult. It was much easier to find
elderly individuals who didn’t have any life insurance and con-
vince them to take out policies regardless of whether they
needed it or not. And this is where HB’s premium financing
strategy came in.

21
 The Ponzi Factor

HB offered what were essentially two-year risk-free loans

for insurance premiums, so individuals could take out life in-
surance policies they didn’t necessarily want or need and, later,
sell it in the life settlement market. HB believed the policies
were worth twice as much as the premiums they were lending
out and used it as collateral to secure the loan. They attached
what they called a put option to all their loans, which basically
said the borrower has the right to sign the policy over to HB
and be fully released from their loan obligations.
The borrower, let’s call him Mr. Smith, didn’t have anything
to lose. Mr. Smith might not need an insurance policy with $5
million worth of coverage, and in most cases, couldn’t afford
one. But if he took out a policy, HB was going to pay for every-
thing through a loan. He pays nothing out of pocket, and he’ll
receive coverage for two years. If he sells the policy for a profit
when the loan comes due, then great. And if not, no problem;
just exercise the put option—sign the policy over to HB—and
walk away. This was why people like Mr. Smith got involved.
It was an ideal situation for HB too. They were issuing loans
on insurance policies that were going to be worth twice as
much as the loans. If they lent out $400,000, the loan was se-
cured by something they thought was worth $800,000. This left
a lot of room for fees, profit, and even mistakes. It seemed like
a win-win situation for everyone involved…except maybe the
insurance carriers, but that wasn’t our concern.
When I joined them at the end of 2007, HB had been report-
ing steady profits month after month since 2005. The strategy
was not correlated with the stock market and did not suffer any
associated rises or dips. Their performance chart looked like a
beautiful, smooth, upward-sloping curve. And with a perfor-
mance like that, HB had investors kicking down their doors with
cash.

22
 HB’s problem wasn’t a lack of money, but finding seniors
who wanted to finance the premiums for life insurance policies
they didn’t need. They worked closely with independent insur-
ance agents on that end because, for liability reasons, they
wanted to maintain the position that they did not sell life in-
surance policies—but only financed premiums. However, it
was obvious that HB gave the agents a way to sell free life in-
surance to people like Mr. Smith.

MY JOB WAS TO ANALYZE how much the policies were thought to

be worth at the end of the two-year loan. We used an industry-
standard valuation model designed by actuaries, which took
into account three primary factors:
1) Cost of insurance: The cost of premiums relative to cover-
age.
2) Life expectancy (LE): How long the insured should live for,
which is also how long the investor should expect to pay
premiums. (This was quoted in months.)
3) The internal rate of return (IRR): The expected annual
return of the entire investment.

23
 The Ponzi Factor

We had no control over the first factor. The cost of insur-

ance was a part of the insurance contract/policy offered by the
insurance company, so it wasn’t something we could change.
There wasn’t much control over the second factor either.
Life expectancy reports were issued by third-party underwrit-
ers, who reviewed medical records for the insured. The big
underwriters at the time, 21st, Fasano Associates, and AVS Un-
derwriting, all had different models and approaches. They all
looked at the same medical records, but one might credit Mr.
Smith’s LE a few months for playing crossword puzzles and
keeping his mind sharp, while another might ignore it
altogether. Sometimes we would get three reports with similar
numbers like 175, 180, and 182 months. But sometimes there
were huge discrepancies with gaps of more than 60 months.
There were a lot of bright people working at these firms, but in
the end, it was all opinionated math, and nothing could be val-
idated until Mr. Smith actually died.
Shorter life expectancies made the value of the policies
higher because it implied a quicker death and earlier payoffs
for the investor. Hypothetically speaking, someone could ask
Mr. Smith to eat a salty sandwich and see the doctor for a poor
checkup, hoping the underwriters would deduct a few months
from his LE, but that didn’t happen often.
The third factor was the internal rate of return, something
we had complete control of. An investment is priced by its fu-
ture cash flow, how much money goes out and how much
money comes back. If the premiums were paid monthly, the
cash flow for a life insurance policy would look like a small out-
flow every month for the premiums and one big inflow from
the death benefit when the insured passes away. The IRR is the
annual rate of return on the entire duration of the investment.
The important thing to understand is that the IRR is a num-
ber we set manually. The lower we set the IRR, the higher the
policy’s value appeared in the model and vice versa. In late

24
2007 and early 2008, HB believed the market was pricing poli-
cies at around 14% IRR, so that’s the number we used in our
model.
I plugged all this information into the model, got a value,
and made a recommendation. I was working with numbers at
a fast-growing hedge fund with what seemed to be a flawless
strategy. It was everything I had envisioned and wanted a few
months earlier. I was proud of where I worked and optimistic
about where we were going. I came to the office early and
stayed late. I even made it a point to eat a light lunch to max-
imize my productivity through the afternoon.
I had already gone through the collapse of one hedge fund
before joining HB, and I didn’t want to see it happen again.
The first few months were great. We moved into the newly
renovated offices and received gifts from happy investors who
were getting annual returns of 18%. Our strategy was quanti-
tative, straightforward, and had a lot of certainties.
That’s what I believed…for the first few months.

AS I BECAME MORE FAMILIAR with the valuation process, I started

to notice some holes in our approach. I began to realize that
several pricing factors were assumed, and when there are as-
sumptions, there is uncertainty.
Of the three analysis factors, the IRR concerned me the
most because it was something we set manually. We used 14%
because Walter said the market was using 14%, but this wasn’t
something anyone could confirm or verify. From what I saw in
early 2008, no one at the office knew anything about how to
sell a policy on the life settlement market.
The LS market wasn’t like the stock market or real estate,
where you can go online and see how much things are selling
for. The deals were done privately, with brokers, phone calls,
and emails. No one was obligated to report any data on the

25
 The Ponzi Factor

transactions. Our model might say the policy was worth

$800,000 because we set the IRR at 14%. But if a buyer set their
IRR at 15%, the value would drop to something like $700,000,
and if they set it at 16%, it would be even lower. In the end, the
buyers were the ones with the cash. We couldn’t exactly tell
them to pay $800,000 just because we think they should be
earning 14% instead of 16%.
The LEs provided by the underwriters were also different,
at times with wide variances, like a four-year gap for someone
who was expected to live for a maximum of fifteen years. We
took the average number from the reports we received, but
some firms used a weighted average, which means they would
give more credibility or weight to one underwriter over an-
other. Weighted averages weren’t any more accurate because
the underwriter’s numbers were opinionated, to begin with.
My guess is, it made the firms think they looked smarter for
having a slightly different opinion, which is common in finance.
This also showed how fragile these assumptions were. People
could have opinions about factors that looked fixed and ex-
press biases by using different weighted averages.
The numbers we generated looked solid because they came
from a computer model that was designed by programmers
and actuaries. But the truth is, our model was just giving us
outputs based on our inputs. We could manipulate averages
and change the IRR setting to make the model spit out what-
ever we wanted.
We were in charge of designing the process and making up
the formulas. We picked which factors to plug in, but we had
no way to validate the accuracy of our projections until the
loans were repaid or the policies were sold. This was when I
realized that old saying “numbers don’t lie” is complete bull-
shit. The fact is, numbers can lie because people can lie. Ulti-
mately, we control the formulas and factors. Numbers will do
whatever we want them to do.

26
THE OPINIONATED MATH CONCERNED ME, but what really con-
fused me were the returns HB Onyx was reporting. HB had
been reporting 18% annual returns. Their performance chart
looked like a smooth, upward slope with no volatility, jumps,
or dips. But where was this profit coming from?
I understood that they issued loans rolled up with fees, but
all they were doing was lending out money. Nothing was paid
back. They started financing policies in late 2006, so when I
went to work there in 2007, the two-year loans had not come
due yet. How could they be reporting these fantastic profits
when none of the loans had been paid back?
The answer is, it was recorded with a process called accrual
accounting. HB was reporting unrealized phantom profits in
real time on the assumption that it would materialize in the fu-
ture. It turns out that such a smooth, upward-sloping line on a
performance chart can only be created with accrual account-
ing, as the profits reported are assumed, and therefore, are not
subject to any real gains and losses.
Applying the accrual accounting process to a more transpar-
ent business would be like a restaurant that reports profits
every month for two years without selling any food. Then, on
the last day, expects to sell enough food to make up for what
they reported over the two-year period. It seems ludicrous
when we apply this accounting process to a real business, but
it is the norm for convoluted investment transactions, like pre-
mium financing and other esoteric financial strategies.
Accrual accounting lets firms account for imaginary profits
in real time, even when there is no guarantee it will ever mate-
rialize in the future. Two essential conditions make this type of
accounting possible: One, the asset has to be illiquid, and two,
the asset has to be difficult to price. This makes the assumed
value of the asset impossible to validate and refute, which es-
sentially allows the fund manager to mark the value of the as-
set according to his or her imagination.

27
 The Ponzi Factor

Stocks are liquid. You see the closing price every day. You
can make an assumption about what the price will be in the
future, but you will still need to report what it did that day,
week, or month. Real estate is less liquid. The value of a house
is usually derived from how much neighboring homes in the
area recently sold for. But you’ll never know how much a house
is worth until it’s sold. Data on the life settlement market is
practically nonexistent. The policies sold in the market are
usually sold only once, and no one has to report anything.
HB Onyx was issuing loans based on the values we gener-
ated in our model—the same numbers I could manipulate by
assuming one LE is better than another and adjusting the IRR—
and reported profits based on how much money they should
make later.
In the real world, you can say you made a profit when you
buy something for $5 and sell it for $6. HB bought for $5 and
assumed it would sell for $6. They bought stuff, then bought
more stuff, and reported annual profits of 18% without selling
anything. You can’t do that with a legitimate business. You
can’t do that with anything outside of finance. That’s not the
norm in the real world, but it’s very normal in finance.

THE TRUTH HIT ME about six months into my position, in early

2008. I realized that despite my steady paycheck, the new of-
fice, and the fancy cars and condos that the partners owned,
HB Onyx hadn’t made any real profits at all. Their success was
not the result of intelligence, ingenuity, or even luck, but how
they used accrual accounting.
Their growth from $20 million to over $100 million basically
followed a process where they issued loans and reported the
accrual returns of 18% per year. As investors flocked in with
more money, HB would issue more loans.

28
 The realization was both scary and exciting. An image of our
office rocking on a big, pink bubble kept playing in my head. I
wasn’t happy about the discovery but felt a ping of excitement
from it. A magnificent catastrophe was about to unfold, and
there’s always a degree of entertainment value in that. I didn’t
start it, and I couldn’t stop it…so, shit, I may as well enjoy the
show.
For some reason, the rest of the office was completely
oblivious. The other analysts felt they were in a nice office with
routine duties. They didn’t go through a fund collapse like I did
before I joined HB, so I can’t fault them for thinking everything
was stable. The lack of concern from the partners, however,
was a little perplexing. They constantly bragged about how
much money they made and how they wanted to move to a
bigger office on a higher floor. When I heard them talk, I just
kept thinking: BUT YOU HAVEN’T MADE ANY MONEY!
It was early 2008, and the economy was starting to sour due
to what was happening in the real estate market. No one at HB
cared because it didn’t affect life insurance values—the same
values we projected from our own computers. I remember a
day when Leonard walked into the office with a newspaper in
one hand, calling out, “I love this economy!” as he read about
rising unemployment figures. He thought it was great—the
economy was going to hell, but we were making money be-
cause we were reporting unrealized profits of 18% a year.
Walter walked out of his office one day with a smile on his
face, the kind you try to conceal but can’t. He put his hands
together, paced a little, and quietly said to someone, “All right,
it looks like I made more money than I thought.” All I could
think was, Eh…No you didn’t.
My manager, Aaron, went around the office at the end of
one of those months telling everyone, “We hit a record
month!” because we had issued something like $10 million in
loans. In reality, this meant nothing. Any idiot can issue loans

29
 The Ponzi Factor

and buy stuff. Spending money is easy. The real trick is getting
it back.
I couldn’t contain myself and whispered to the other ana-
lysts, “A record month for us, or the insurance companies who
took our money? Only time will tell.”
There were only two times when I heard someone else at
the office express concerns about the imaginary profits we
were reporting. The first time was Karen, an analyst who
started at HB the same time I did. During the first few weeks
on the job, she had mentioned, with a hesitant look on her
face, how all the profits we were reporting were accrued.
We were both learning the basics, and I assured her by say-
ing, “Yeah, that might be true now, but we’ll make it back later.
These guys know what they’re doing.” The truth is, I barely
knew what accrued meant back then, but she clearly did.
The second time was closer to when the rest of the econ-
omy was going to hell, and people at HB thought they were in-
vincible. For reasons I can’t remember, we (the analysts)
decided to randomly test some of the policies in our portfolio
using the Valuation Basic Table (VBT), a standardized table
published by the Society of Actuaries. This was like using a sim-
ple average for the life expectancy rather than the LE reports
based on the medical records and opinionated math. The valu-
ation that resulted from these tests were all deep in the red—
so deep that Aaron walked by, saw them, and said, “That can’t
be right. If there’s any truth to those numbers, we should just
pack up and go home.” We all wrote it off as something that
couldn’t happen without further thought as to why it couldn’t
happen.
I didn’t share their optimism. I tried to internalize how I felt,
but being Hyperactive-Impulsive ADHD, I had a bad habit of
talking more than I should. It became apparent that I was pes-
simistic about what we were doing and became a pariah for it.

30
 A part of me wanted to warn the investors of the danger,
but I didn’t know how to do that without jeopardizing my job
and, possibly, my career. I later learned that this decision be-
tween doing what is professional versus moral comes up often
in finance.

REPORTING UNREALIZED PROFITS is one thing, what was even

stranger was how some investors looked like they were able to
cash out their investments.
But where was the cash coming from?
The loans hadn’t matured, and nothing had been paid back.
Accrual accounting gave HB Onyx the ability to report phantom
profits. Collecting the actual money was a separate matter. An
asset value is just an idea, but real money is finite and tracea-
ble, and comes from a source. How were people getting paid
out with real money?
HB’s lockup—how long investors were committed for—was
a little over two years because of the two-year loans. But ap-
parently some early seed-investors were able to cash out after
the lockup period, but before any of the loans came due. I re-
member Aaron saying to me, “The first investors technically in-
vested risk-free. They put their money down before we issued
any loans and cashed out before any of them came due.”
Two things came to mind: Damn! I wish my friends had in-
vested when I told them to in the very beginning! And again,
But where is the money coming from if no one has paid back
any loans?
The partners were also cash-rich buying expensive cars,
condos and taking exotic vacations. But from what I observed,
HB’s investors were the only ones contributing money to the
fund at that time. HB did get a cut of the sales commissions
from the policies they funded, which could explain their toys
and spending habits to a degree. But the problem is, that

31
 The Ponzi Factor

money also came from their own investors. The sales commis-
sion on a life insurance policy comes from the premiums, and
the premiums come from the loans, and their investors fund
the loans. Whichever way you look at it, the source of the cash
always pointed back to their own investors. Sometimes it
looked like it was shuffled through the fund itself, and some-
times it was shuffled through an insurance company by way of
premiums and commissions.
All of this concerned me, but I wasn’t ready to write off eve-
rything we were doing. Above all, I thought Walter and Leonard
were decent people with good intentions. I was not optimistic
about our firm’s future, but my fears had not been confirmed
either. For all I knew, the policies could be worth what our
models projected and more. Maybe I was worried over noth-
ing…

THE FIRST LOAN CAME DUE in mid-2008, and the borrower/in-

sured couldn’t sell the policy for what he thought it would be
worth in the market. A major alarm should’ve gone off, but it
didn’t. Instead of being concerned, HB did something unimagi-
nable. The partners said they bought the policy, which the mar-
ket rejected, with their investor’s money through a separate
life settlement fund they had created. This meant the left hand
was feeding the right, and it was more evidence that money
was being shuffled between their investors.
I was in disbelief when I heard this and thought: Let me get
this straight; we issue a loan based on an assumed value we
generate with our model. And when we can’t sell the policy for
that assumed value in the market, we just buy it back ourselves
to justify our assumptions? What the F?!
Over the next few months, more loans came due, unpaid,
with policies accepted as repayment for the loan. But HB still

32
wasn’t concerned. Instead, they went on a buying spree, pur-
chasing additional policies from the life settlement market.
Finding it harder and harder to hold my tongue, I said to the
other analysts (louder than necessary), “Maybe we ought to
figure out how to get rid of the policies we’re already holding
before spending more money on new policies!”
But things didn’t stop there.
At this time, when the entire strategy seemed questionable,
Leonard decided to start selling naked put options, making HB
responsible for repaying other people’s loans as well. HB was
already obligated to take back their own policies as repayment
for their loans. Now, they were selling promissory notes saying
they would repay premium-financed loans other lenders had
issued. Leonard treated this additional liability like it was risk-
free profit.
Taking on additional liabilities at that time seemed ridicu-
lous, but I remember hearing one interesting explanation for
why someone in HB’s position might want to do this: The put
options were liabilities, but with the accrual-accounting pro-
cess, the potential losses from these liabilities wouldn’t show
up for at least two years. From time zero to year two, this
liability could be recorded as profit. So hypothetically speaking,
HB could cover the losses from their activities in 2006, which
were surfacing in 2008, by taking on more liabilities, which
wouldn’t show up until 2010.
It was an interesting idea—and probably a tactic that bigger
entities with the luxury of recording billions in losses had used
before. But I think a simpler and more likely explanation was
that the partners were blinded by their fictional success and
ignored the looming fallout.
I voiced my concerns to Leonard and Aaron in a private
meeting one morning, before the other analysts arrived. I said,
“If we keep buying back our own assets with our own money,

33
 The Ponzi Factor

what we are doing is”—I shifted uncomfortably in my chair—“I

really don’t want to say it but…it’s kind of like a Ponzi scheme.”
There was an uncomfortable silence. Aaron didn’t say a
word, but Leonard finally responded with, “We try to sell it in
the market as much as possible and try not to make it a practice
to buy back our own policies.”
The fund was sitting on a massive portfolio of policies we
might have to take back without knowing their real value. The
profits HB Onyx had been reporting were accrued, assumed,
and unrealized. We were taking money from our investors to
pay off the loans our investors funded. It was looking like a
Ponzi scheme—but one that was completely legal.
They fired me a few weeks after that meeting. And I wrote
a final email to Walter sharing, “The mistakes in premium fi-
nancing will not be realized for at least two years.”

CALL IT A COINCIDENCE OR CALL IT FATE, but just one week after I

was fired, things started falling apart for HB Onyx and the in-
dustry as a whole. The life settlement industry wasn’t depend-
ent on stocks or other economic factors. The main thing that
affected valuation was medical underwriting, which had re-
mained stable for more than a decade.
For some strange, synchronistic reason, the same month,
and possibly week, in 2008, when Lehman Brothers went
bankrupt, and stocks went to hell. All the leading medical un-
derwriters that provided LEs—21st, Fasano Associates, AVS
Underwriting, all of them—announced they were changing
their evaluation tables. Under the new tables, the LE numbers
they had provided in the past would now be increased by about
25%. So an individual who had a life expectancy of 10 years was
now expected to live 12.5 years. This meant that investors

34
would have to change their evaluations and price in an addi-
tional 25% of premiums for their entire portfolio. This alone
wreaked total havoc with the numbers. But there was more.
HB wasn’t the only firm that had started a premium-financ-
ing program back in 2006. Now, other loans that had been pre-
mium financed were also coming due, and an overwhelming
supply of premium-financed insurance policies flooded the
market. The life settlement market, which, according to HB,
had too many investors and not enough policies in 2006, all of
a sudden had too many policies and not enough investors in
2008. As a result, the buyers were able to pick and choose as
they pleased. They were not purchasing policies at 14% IRR, as
HB assumed when they issued the loans. They weren’t even
pricing them at 15%. They were pricing them around 24% IRR
or higher. This alone depressed the assumed value of most pol-
icies by almost half. But still, there was more.
Insurance companies have never been fond of life settle-
ment transactions and will not issue a policy unless there is
genuine insurable interest, a real need for insurance coverage.
It was clear that premium-financed policies funded by hedge
funds like HB Onyx did not have insurable interest and were
destined for investment purposes. To get around this, firms like
HB set up dummy trusts to hide the source of the funds and
trick insurance companies into issuing policies. Some insurance
agents who worked with HB even submitted false applications,
for which they later went to jail. But, in HB’s defense, this was
probably done without their knowledge.
In addition to the change in LEs and IRR, premium-financed
policies were flagged by the insurance companies, and the va-
lidity of the policies became entirely questionable. This meant
there was a chance the insurance companies would deny the
death benefit payment when the insured passed away. As a re-
sult, HB’s policies were stigmatized as dirty paper by the mar-
ket, which depressed their value even more.

35
 The Ponzi Factor

Each of these events—the change in LE, the change in IRR,

and the dirtiness of the paper—on its own could collapse their
strategy. But all three were in play simultaneously, creating a
perfect storm. A policy that cost $400,000 in premiums and
was thought to be worth $800,000 when the loan was issued
could be worth close to nothing when it hit the market in 2008.
Some of the policies’ values were in the negative, which tech-
nically meant HB’s policies were so worthless that they should
be paying people to take it off their hands.
So what did HB Onyx do?
They kept reporting profits in a smooth, upward slope. Us-
ing tricky accounting to report profits didn’t surprise me, but
the audacity to continue advertising their performance on sites
like Reuter’s Hedge World did.

Over the next two years, many life settlement funds and
premium financing programs went out of business. But for
some reason, HB Onyx was still standing.
I got a call from an insurance agent in 2010 who wanted to
find out what I knew about HB, specifically the put options they
sold. His client had taken out a premium-financed loan through
a full-recourse lender who expected to get their money back
regardless of whether or not the borrower could sell the policy.
In an effort to protect his client from the possibility of a bad
market—which became a reality—he had bought a naked put
option from HB for around $60,000 when the loan was issued
back in 2008. His problem was, the loan came due, the policy
couldn’t sell, and HB wasn’t paying. They were hiding, stalling,

36
not answering their phones, and doing everything they could
to avoid paying off the loan, which was around $1 million.
My answer to him was simple, “HB Onyx is 100% responsi-
ble for repaying any loan the put option is attached to.”
HB’s lights were still on, but they were fading. They were
out of cash and the reality inside the office was very different
from the lucrative profits they reported. Someone at their of-
fice told me one of the young partners, Jonah, left the firm and
went into hiding. Managers like Aaron, along with a bulk of the
staff, were also let go. The office was surviving with a skeleton
crew. The analysts’ work was relegated to answering phones
and hiding the partners from angry investors and clients. The
running joke was how the analysts all wished they would get
fired, so they could collect unemployment and look for new
pastures.
HB had no money and plenty of obligations, one of which
was paying off the $1 million loan the insurance agent had
called me about.
So what did they do?
They reneged.
HB sold a naked put option for around $60,000 in 2008, and
when it was time for them to be accountable, they just didn’t
pay.
The amazing thing is, if someone sells iPhones on eBay,
takes people’s money, and then mails out boxes of newspaper,
it’s only a matter of time until there’s a knock on their door
with the cops waiting outside. That’s for items, which are
worth only a few hundred dollars. But in finance, entities like
HB can sell contracts with empty promises to repay loans for
tens of thousands of dollars, renege on them, and suffer no re-
percussions or criminal liability.
Isn’t that amazing?

37
 The Ponzi Factor

HB did end up getting sued by some of the people who pur-

chased their put options. But why did it even have to come to
that? They’d clearly defaulted on their commitments. Did the
people they screwed over really have to spend more money on
lawyers to drag HB Onyx to court to seek justice? We can call
911 to report a robbery when a few hundred dollars are in
question. Can’t we have a similar process for finance firms that
sell worthless contracts for tens or even hundreds of thousands
of dollars?

THE ONLY THING HB Onyx was holding in the end was a dis-
tressed portfolio of policies that were worth close to nothing.
The policies in their portfolio were not real assets, regardless
of how it was recorded and accounted. I tried to explain this
point to Aaron when he walked by the analysts’ desks and saw
all the red numbers from the VBT tests.
I remember him saying, “But, I don’t get it. That doesn’t
make sense. I mean, these are assets after all, and there’s got
to be some value there.”
My response was, “You can’t think of these things as
something real, like a house. If someone doesn’t pay the mort-
gage, the bank can take the house and sit on it. Regardless of
whether or not the bank can sell it, there’s still a house there—
that is real value. But these policies are just imaginary things
people thought up. If we don’t pay the premiums, they’ll dis-
appear as if it never existed.”
The policies in HB’s portfolio wasn’t worth much, if anything
at all, due to the IRR and LE changes, but the thing that made
it very dangerous was that the insurance companies flagged it
as dirty paper. There was a real possibility that the insurance
companies would contest or stall the death benefit payments
because of how the policies were originated. Either action

38
would be disastrous for investors. But some people thought
differently.
A company called Gerova offered to acquire HB Onyx for
$94 million in stocks and $11 million in cash. This made no
sense to anyone who knew what HB was holding. The thought
that the partners would come out smelling like roses made me
disgusted. But the celebration at HB didn’t last long.
Just one day after Gerova publicly announced their acquisi-
tion of HB, an investigative journalist at Forbes published a de-
tailed article titled “NYSE-Listed Gerova Has Close Ties to
Westmoore Ponzi Scamster.”
Apparently, Gerova had skeletons in their closet too. Over
the next few weeks, Gerova’s stock crashed, and they backed
out of the deal.
HB ultimately lost their portfolio to a hedge fund called For-
tress, through some shady foreclosure when HB defaulted on
a line of credit. I don’t know the details, but I remember read-
ing about how HB vowed they would go after Fortress for what-
ever they had done.
Two things surprised me about that fallout, however. One,
someone was stupid enough to give HB Onyx a line of credit on
the crap they were holding. Two, apparently Fortress thought
they got a bargain acquiring HB’s garbage through that foreclo-
sure. I thought it was hilarious.
I don’t know what Fortress was thinking. My guess is, they
analyzed the portfolio with the usual quantitative method but
also ignored something that couldn’t be quantified, the dirty
paper factor—the possibility that the insurance carriers would
contest the validity of the policy and the death benefits.
The legal battles became a reality in 2012 when Fortress
found themselves in a fight with a life insurance company who
denied $33 million in death benefits. The insurance company’s
argument was, as predicted, that the policies were not

39
 The Ponzi Factor

properly issued, there were misrepresentation and fraud, and

therefore, they didn’t have to honor them.
I don’t know what the outcome was or if the battle is still
raging. But according to a Bloomberg article in 2014, “the larg-
est of its 2010 life settlements funds had a $19 million deficit,”
and Fortress was looking for help.
HB Onyx closed their doors in 2011. Some of the independ-
ent insurance agents they worked with went to jail for fraud-
related charges. The last I heard, the partners at HB were facing
multiple lawsuits. Regardless of how things turned out, I think
the partners still walked away with a lot of money, cars, con-
dos, and other toys.
Sometimes I wonder how Jonah and Leonard’s parents felt
about what their kids did. These were two young guys in their
late twenties who looked very successful at a hedge fund. But
the simple truth is, they got rich from losing and taking other
people’s money. They weren’t dumb, but they weren’t any
smarter than anyone else in their position. They just got lucky
by taking part in a system that allowed them to record fictitious
profits before their failures were exposed.

THE THINGS THAT ARE LEGAL in finance are far more destructive
than what is illegal in finance.
This was my first experience witnessing what I call a legal
scam in finance. A classic Ponzi scheme shuffles cash from one
investor to another with nothing in between. This is essentially
what HB did when they bought back their own policies with
their own investors’ money, but with one difference: there was
a piece of paper in between the transactions, in this case, a life
insurance policy with an assumed value that can’t be verified
or refuted.

40
 When cash is shuffled from one investor to another, it is il-
legal. But when it is shuffled through a synthetic asset, no mat-
ter how fictional the value is, it is considered legal because
accrual accounting lets the industry account for unrealized
profits. In finance, accounting for profits is equally, if not more,
important than earning them.
In 2007, I read Alan Greenspan’s book The Age of Turbu-
lence. He proposes that hedge funds are an instrumental part
of the financial system because they help remove the ineffi-
ciencies caused by larger banking institutions—kind of like the
grease between the gears. I believed this in 2007 and even
quoted Greenspan to Aaron, adding, “Hedge funds are tools,
like a spoon or fork. It’s ridiculous for anyone to think they’ll go
away.”
I loved finance so much back then that everyone around me
felt it. My girlfriend at the time told me she had a dream where
I was listening to music. And in that dream, I said I could see
the symphony of notes, and I was trying to apply what I saw to
the movements in the stock market.
The first thought that came to mind when she told me
wasn’t, Oh how sweet. But, Hm…is that actually possible.
That’s how passionate I was about the industry in 2007. But
I didn’t feel that way after 2008.
Hedge funds like HB Onyx engaged in schemes that, if any-
thing, made the financial system less efficient and more vola-
tile. Taking out insurance policies so the fund managers can
take bets on when an individual dies creates no value for soci-
ety. Even if HB’s strategy had been successful and the partners
were right about everything, their success and profit from tak-
ing advantage of insurance companies would ultimately result
in higher premiums for people who actually needed insurance
for legitimate purposes.

41
 The Ponzi Factor

At one point, Deutsche Bank wanted to set up a synthetic

life settlement market that cut out the insurance companies
altogether. They tried to construct a portfolio that tracked the
lives of a few thousand people and let investors bet on when
they were going to die. As ridiculous as this idea sounds, it
would be a good thing in the sense that it would give financial
institutions a way to gamble on artificial insurance products
and keep them away from real insurance products that affect
those who need insurance. But like most financial innovations,
it’s all just another way for people to shuffle money. It gives
people in finance something to do, but it serves no purpose for
society as a whole.
I used to have a lot of respect for how hard people in finance
worked. Sure, they got paid a lot of money, but they also
worked some crazy long hours, and I respected that. But after
HB and the financial crises of 2008, I said to a friend, “Long
hours in finance don’t mean shit. All the extra hours we work
are spent thinking up ways to gamble, ways to shuffle other
people’s money, and new ways to take other people’s money.”
The accrual accounting method is both legal and common.
I am fairly sure this is how Bear Sterns, Lehman Brothers, and
Merrill Lynch were able to pay their employees hefty bonuses
during a time when they were losing massive amounts of
money. Those firms went under in a matter of weeks, but it
took years of hard work and overtime to make that happen.
Who will be the next HB Onyx is anyone’s guess…but if you
see returns with an upward sloping line and low volatility, you
can be certain that it is accrued and assumed…or just a straight-
up Ponzi scheme.

42
43
 CHAPTER 2

The Backbone of the

Industry
ABC: ALWAYS BE CLO SING

"In many deceits, the victim overlooks the liar’s mistakes,

giving ambiguous behavior the best reading, collusively
helping to maintain the lie, to avoid the terrible conse-
quences of uncovering the lie."
—Paul Ekman

A lawyer once told me that there exists a concept in law that

says, “If someone is lying about something small, they are also
lying about something big.”
To me, a small lie is when asset managers tell their clients
they can help them grow their assets. The bigger lie is that they
do not disclose the fact that they are powerless to prevent
them from losing what they already possess.
 The Ponzi Factor

BEFORE I JOINED HB ONYX, my first job in finance was at a start-

up hedge fund in Fairfax, Virginia, called Rubin Asset Manage-
ment. It was a hedge fund that traded stocks, and my official
title was Analyst and Office Manager.
The fund manager, John Rubin, started his career as a stock-
broker at one of the big banks in New York. He later became an
investment advisor who, at one point, had his own radio show
and around a hundred clients. In 2006, the hot item was hedge
funds. He got sick of dealing with the individual portfolios of all
of his clients and convinced many of them to pool their money
together in a collective fund under Rubin Asset Management,
John’s hedge fund. 5

The first thing I noticed when I started working was that the
backbone of the business was not analysis, but sales. I re-
searched stocks, economics, growth, and the usual stuff, but
the background message that dominated the day-to-day activ-
ity was, “We have to get more money into the fund.” A white-
board in my office had “ABC: Always Be Closing” written on it,
which was left there by whoever used the office before me. It
bothered me because I had always sucked at sales, but started
to realize that this was what I had to do to succeed in this busi-
ness.
John was the best salesman I’d ever met. Those who knew
him well told me he was capable of closing nine out of ten peo-
ple he sat with. I remember a time when a client walked out of
his office after a meeting. The investor, who was in his seven-
ties, had a concerned look on his face as he was staring down
at a piece of paper that outlined all the fees. As he was getting
ready to leave, he turned to John and said, “It looks like you’re
making more money than I am.”

* A lot of people have asked me what a hedge fund is over the years. The
short answer is, it’s just a pool of money from various sources.

46
 Without hesitation, John smiled and replied with sincerity
and optimism, “That may be true, but that’s gonna change!”
I was open to the idea of becoming a great salesman like
John, but the problem was I really didn’t believe in what we
were selling. Everything we did felt like gambling. The stuff I
learned in school was only good for coming up with intelligent-
sounding bullshit that made it sound like we knew what we
were talking about:
“Yes, the equity market is acting a little funny right now.
But stocks tend to behave a little strange when we’re looking
at an inverted yield curve in the bond market. But that’s all
right. The important thing is what’s happening in commodities.
We’re not seeing any contango, and as long as oil is moving
inversely against stocks, it’ll act as a nice hedge for any portfo-
lio.”
It sounds intelligent, which is why the monkeys on CNBC can
debate these points all day, but it’s all bullshit.
The analysis techniques from school were useless. The big-
gest problem with the information in textbooks is that they all
had fixed assumptions. Factors like the interest rates, discount
rates, and correlation were all fixed values that were given to
you. If you plug those things into a formula and execute a pro-
cess the right way, you’ll get a definitive answer. But in the real
world, those fixed assumptions are not fixed. At any given mo-
ment, the Federal Reserve can announce a change in the inter-
est rate and the correlation between two assets can move from
positive to negative.
I quickly realized that it is not difficult to come up with an
investment strategy that could correctly predict what a stock
might do nine times out of ten. But the issue is that tenth
time—the one time it doesn’t do what it’s supposed to do be-
cause an underlying assumption had changed—that had more

47
 The Ponzi Factor

weight and wiped out all the positive returns from the nine
times it did work and more. 6

John was selling the idea that we could protect our client’s
money and make it grow, but I didn’t see how that was actually
possible. I wanted to believe his message, but I couldn’t see any
logic to it.
John definitely believed it was possible, which is probably
why he was such a great salesman. Even during one of the
worst performing months, when the fund was down as much
as 10%, he would say to me, with conviction, “Don’t worry
about the performance because the performance will come.
The key is to get more money into the fund. Trust me. Don’t
worry about the performance because the performance will
come…”
And the question that kept repeating in my head was,
"How?"
I asked my older sister for advice. She is an MIT and Harvard
alumna with an MBA and investment banking experience in
New York and Hong Kong.
I said, “Do you have any advice on what I should look for
when it comes to stocks?”
She explained what she did as an investment banker and
the tools she used—models, balance sheets, growth projec-
tions—the usual stuff you hear about on CNBC. But she con-
cluded with, “To be perfectly honest, all that research stuff is
nice and all, but in the end”—she started to giggle—“it all
comes down to your gut feeling…Ha-ha-ha.”

* In practice, the problem where one loss can account for more than all the
gains doesn’t show itself in a one out of ten situation, but can reveal itself in
a one in a million situation. This is also called “tail risk” and something Nassim
Taleb wrote about extensively in his books Fooled by Randomness and The
Black Swan.

48
 She also added that she was terrible at investing her own
money and couldn’t give me any advice on how to buy stocks.
I talked to a seasoned trader that worked indirectly with
John and asked him, “Is there anything we can do to make our
decisions a little more certain, even just once, for even just a
little bit?”
He laughed and replied, “Are you asking if we can get into a
sure thing? Ha-ha.”
There was no need to elaborate because the answer was
clear; there is no certainty in what we do and no way to attain
it. Ever.
The only reasonable advice I’ve ever received about fore-
casting market movements was from one of my former busi-
ness teachers who was once some big shot for Citi Group in
South America. His advice was, “When you forecast, make sure
you forecast either the direction or timing, but never both. You
can say the market will move up, or the market will move in
April. But don’t say the market will move up in April!”
It’s actually a cheap trick to minimize the probability of be-
ing wrong, which is why it’s the only trick that made sense. He
also added that he was so bad at forecasting that, at one point,
Citi Group told him to stop forecasting and do something else.
Some days, I went to work as early as 5:00 a.m. and left as
late as 7:00 p.m. I watched CNBC religiously and kept myself
busy with research because it made me feel like I was doing
something for our clients. We were collecting fees on the
money they gave us, and if I couldn’t repay them with proba-
bilistic certainty, I was determined to repay them with my
hours. In reality, investing in stocks takes a few clicks of the
mouse, and the rest is up to luck. I later came to realize that
people in finance didn’t create extra work for themselves to
deceive their clients; they create it to deceive themselves.

49
 The Ponzi Factor

In the end, all those long hours didn’t count for anything.
John never listened to any of my suggestions—not that I had a
magic formula or anything. His fund collapsed in about a year,
after losing a significant amount of money for his investors.
Despite how things ended, I consider John, a decent person.
His promises and ambitions to grow his clients’ assets were sin-
cere, and he wasn’t using dirty tricks like accrual accounting to
report fictitious profits based on assumed earnings. What he
didn’t realize was that taming market forces and delivering on
those promises were beyond his control—the control of any
asset manager.

50
 CHAPTER 3

The Idea of Investing

INVESTING AND G AMBLING

"Wall street is one big turf war. By benefiting one person,

you’re disadvantaging another…The person buying a
stock thinks he knows something the person who’s selling
doesn’t know…The basic concept of Wall Street, which the
regulator and academics lose sight of, is that it’s a for
profit enterprise."
— Former Chairman of the NASDAQ, Bernard Madoff

THE ONLY REASON PEOPLE INVEST in the stock market is that they
think they are going to make money. But the reason they think
they are going to make money is because that is what they are
told by financial professionals who sell investment services.
The fact is, Wall Street would not exist without the contin-
uous inflow of money from Main Street. Hedge funds and
banks make up a small percentage of the money that goes into
the stock market. The majority of the money that Wall Street
 The Ponzi Factor

plays with comes from regular people who make regular con-
tributions to their 401(k)s, IRAs, and mutual funds. The money
that goes into most retirement plans goes into the investment
system and almost always finds its way to the stock market or
some other synthetic asset.
The reason why people keep throwing money into Wall
Street is because they believe in the “Idea of Investing,” which
basically says that it’s possible to make money with money—
let your money work for you—and it can be done in an intelli-
gent way that is safe and fundamentally different from gam-
bling.
The idea of investing creates a demand for investment ser-
vices, but this idea is also entirely artificial and unproven. As a
society, we’ve learned to accept the idea of investing as a nor-
mal part of life (we work; we save; we invest for retirement,
college, etc.), but if we traced the origin of investment profits,
we would also see that the idea is extremely illogical.
We can break down the stock investment process with a
physical example because cash, the only thing investors care
about, can be physical and, for the most part, is finite. Think of
the investment system as a bucket and common stocks as pa-
per napkins. Throw the napkins into the bucket with $100 of
real cash. Spin the bucket around, mix it up, shake it up, and
ask, "How can we get $110 of cash out of that bucket?"
The simple answer is, we can’t. The paper that makes con-
tact with cash doesn’t miraculously turn into cash, and the cash
inside the bucket won’t magically multiply. The only way to get
$110 out of that bucket is if someone else puts in another
$10—and that someone else is pretty much always another in-
vestor who wants to get back more money than they put in.

52
 This is why Wall Street is not capable of producing real cash
profits for stock investors. Stock value appreciation strate-
gies—buy low, sell high—assume that the source of profits
come from an infinite pool of money created by the stock mar-
ket and that it is available to anyone with the right tools. But
the stock market is not an infinite pool of money that people
can draw from. Money that is taken out of the market comes
from the pockets of other investors. There is no such thing as a
magic bucket that can turn synthetic instruments into real
cash. The money that people see in their stock investment ac-
counts is not real; it does not exist, which is why those balances
can rise and fall sharply at any given moment.
In most situations, people are smart enough to question
something that sounds too good to be true, but when it comes
to money—especially the lure of easy money—our ability to
apply reason becomes stupefied. The idea that we can create
cash with synthetic instruments like stocks is as ridiculous as it
sounds, but people (including me at one point) believe it. And,
I think the reasons why people believe this absurd idea is be-
cause, it is a nice idea we all want to believe in.

53
 The Ponzi Factor

One reason why finance professionals think it’s possible to

create money from synthetic instruments is that they ignore
the difference between an asset value and real money. They
think and quote things in terms of asset value, as in, how much
stocks are assumed to be worth in terms of cash, but forget
that it is not cash or anything close to how much real money
investors are entitled to. The problem with asset value is that
it’s not real; it’s just an idea from the imagination. 7

As of June 2019, the NYSE and NASDAQ have a combined

value of more than $36 trillion, but there is only $1.7 trillion of
cash circulating in the US economy ($3.3 trillion in total in ex-
istence), which includes the money people are hiding under
their mattresses. Investors will never get the $36 trillion they
feel entitled to because it doesn’t exist.
The average person, who knows little to nothing about
stocks or finance, can see this reality better than people who
have studied finance—mainly because they haven’t been pro-
grammed to think of an imaginary asset value as a cash equiv-
alent.
So a good question is: Why don’t ordinary people ask these
obvious questions?
Why don’t more people ask Wall Street how they intend to
make good on $36 trillion of stocks when there is only $1.7 tril-
lion of cash in circulation? Or how they can generate $110 of
cash from a bucket that only has $100 without taking money
from other investors?
This is where things get complicated.

* The $1.7 and $3.3 trillion quoted here is the Monetary Base. The M1 and
M2 are other measurements of money, which includes the currency in circu-
lation. The M2 is the most lenient measurement of money, which was around
$14.8 trillion in June 2019, which is still very far from $36 trillion.

54
 Explaining why it’s not possible to pull out $110 from a
bucket that only has $100 and napkins is easy. Things that are
true tend to be simple to explain and easy to comprehend.
But if I took the other side and tried to explain how money
grows on trees and why it’s possible to create $10 from shuf-
fling a bucketful of imagination, well, that would be a lot
harder. I would need a lot more ink, paper, and esoteric math.
Whatever explanation I end up offering will be sketchy at best.
Selling the idea of investing goes beyond the catchy slogans
and temptations of easy money. A big part of Wall Street’s suc-
cess, and why they’ve been able to dodge these simple ques-
tions, is because the industry has people that make the
investment system extraordinarily complicated. Finance aca-
demics, quants, financial engineers, and other intelligent
sounding people play an indirect, but important role in selling
the idea of investing. They make Wall Street’s activities look
intelligent, legitimate, and extremely difficult to understand.
This, in turn, also deters ordinary people from asking simple
questions like, "Where does the cash come from?"
If you tell people, they can put their money into a system
that will give back more than they put in, no matter how self-
entitled or greedy they are, most of them are still smart enough
to ask, "How?" But if you make that system extremely difficult
to understand and sell the idea that you are smarter than
them—that you know more about this money-printing system
than they do—most people will stop asking how.

55
 The Ponzi Factor

The sad truth is that no one wants to ask “How?” to begin

with. Deep down inside, everyone wants to believe that there
is a bottomless pool of money we can all fish from. We all want
to believe that there exists a system where we can hire experts
who can magically make our money grow. Unfortunately, this
bottomless pool of money doesn’t exist, and every dollar that
gets pulled out of the system comes from the pocket of an-
other investor—someone who doesn’t want to be separated
from their money.

56
 The people who work in financial research play an im-
portant role; they make the complexities of the system look
and sound legitimate. A complicated system allows excuses for
more fees, and it makes the simple but unanswered questions
concerning the origins of investment profits seem unneces-
sary. But despite how many mathematicians, economists, and
PhDs there are on Wall Street, not one of them has proven
whether or not the idea of investing is even valid or can
properly address questions like, "Where does the cash come
from?"

THE IDEA OF INVESTING is also grounded by our general perception

of what the word “invest” implies. Investing is seen as a money
making activity where success is believed to be dependent on
intelligence and resourcefulness, but not blind luck—some-
thing that is fundamentally different from gambling.
Investing and gambling are perceived very differently in our
society. Investing is seen as something erudite people go to
school for, while gambling is stigmatized as something that is
driven by stupidity and greed. The assumption is, you invest
with Wall Street and gamble in casinos. You need brains and
books to be a good investor and luck to be a good gambler.
But what is the real difference between investing and gam-
bling? Forget public perception and your personal feelings, and
seriously think about the real technical differences between
these two activities.
The fact is, these two activities are practically identical be-
cause both investors and gamblers have one common goal in
mind: they want to make money with money, and it makes no
difference whether they are buying stocks or betting on num-
bers in roulette. But with that said, most people who own
stocks do not like to be thought of as gamblers, and legal sys-
tems with strict anti-gambling laws ignore gambling activities

57
 The Ponzi Factor

that involve financial instruments. This is why you have to be

21 to play blackjack, but only 18 to open an online trading ac-
count. Unfortunately, there isn’t a clear way to differentiate
these two activities. Most of the things people think of and la-
bel as investments are actually gambles.
Misusing vocabulary is a pervasive problem in the finance
industry. Most of the time, it’s done out of pure ignorance, but
sometimes it’s done deliberately to speak favorably about the
industry. For example, the word “hedge” by definition means
an action that minimizes risk or exposure to a position, but the
industry also calls the riskiest investment funds “hedge funds.”
By definition, the word “arbitrage” means a risk-free trade that
involves pricing discrepancy and simultaneous execution,
where a trader buys and sells an asset simultaneously (an op-
portunity that is practically nonexistent). But most finance pro-
fessionals don’t acknowledge the critical details in the
definition—they’ll attach the word “arbitrage” to anything
with a pricing discrepancy even if the strategy is not risk-free
and does not involve simultaneous execution. 8

This problem of misusing vocabulary is as bad as it sounds

and causes as many issues as you can imagine. But most people
are unaware of it because financial journalists contribute a
great deal to the problem. I remember watching a segment
where a Yahoo! Finance reporter used the term “Twitter Arbi-
trage” to describe a strategy where people bet on stocks based
on stuff that came out on Twitter. I’m pretty sure you can im-
agine why that is not risk-free with simultaneous execution.
And I’m pretty sure you can imagine how someone on Wall

* Finance people like to differentiate trading and investing, and associate

trading with gambling. However, there is no real difference between trading
and investing. Both words describe the action of buying and selling stocks.
Investing is usually seen as something long-term, but trading can be short-
term or long-term. A ten-year investment can also be called a ten-year trade.

58
Street might see that segment and start attaching arbitrage to
other ridiculous ideas that don’t fit the definition.
However, unlike hedge and arbitrage, where the misusage
is often a blatant contradiction to the definition, I think people
get the words “invest” and “gamble” confused because of the
outdated definitions offered in the dictionary. Merriam-Web-
ster and Dictionary.com have the following:
Invest: “to commit (money) in order to earn a financial
return,” or “to put (money) to use, by purchase or ex-
penditure, in something offering potential profitable re-
turns” (First known use 1613)
Gamble: “to play a game in which you can win or lose
money or possessions,” or “to play at any game of
chance for money or other stakes.” (First known use
1772)
These definitions describe two fundamentally different ac-
tivities. Investing requires purchasing an asset, while gambling
is playing a game that doesn’t involve anything tangible. How-
ever, when the word “invest” came into use in the 1600s, land
was the basis for investment, not synthetic financial instru-
ments like stocks. This means the definition for invest was re-
ferring to tangible assets, not intangible things like stocks,
which have no physical value and can disappear at any given
moment.
Today, the words “investing” and “gambling” are often used
to describe the same activity but with a difference in the per-
ceived level of risk. People think of gambling as something that
has more risk than investing, but they don’t see these two
things as fundamentally different activities. With this in mind,
it’s clearly more reasonable to redefine invest and gamble with
respect to the level of risk associated with the activity. But
what should be the risk threshold that separates investing from
gambling?

59
 The Ponzi Factor

One thing I give the casino industry credit for is that they
are honest about the odds of their games. They openly admit
their games are engineered to provide the house with an edge
of about 2% over the player—an advantage that’s big enough
for them to make their money with the long run average, but
not too big to deter people from playing. Casinos can easily en-
gineer a game that gives them a more significant advantage,
but they wouldn’t make money because no one would play. 9

If you play normal blackjack, following the rules outlined in

the basic-strategy chart that tell you what moves you should
make on the initial hand (hit, stay, split, etc.), the casino’s edge
can be reduced to just 0.5%. This means a player has a 49.5%
chance of winning and a 50.5% chance of losing—almost
50/50.
If casinos can offer gambling games where the player has
close to a 50% probability of winning, then it’s reasonable to
expect investing activities to have a probability of success that
is greater than 50%.
This is where we start to see a big problem. There is no way
to calculate the real probability of success for any stock or
group of stocks (and most investment strategies in general).
It is possible to calculate the definitive probabilities of win-
ning or losing for a casino game because the rules of those
games are well-defined. For card games like blackjack, the
number of cards doesn’t change, and the values on the cards
don’t change. There might be some minor differences at differ-
ent casinos, but the rules at every table are well-defined, and
once the game is in motion, they don’t change. But this is not
true for stocks.

* “Normal blackjack” pays players 150% on their bet when they get blackjack.
Las Vegas now has new blackjack tables that only pay 120%.

60
 The different factors that can affect stock prices are practi-
cally infinite. There is no way of calculating the definitive prob-
ability of winning or losing because the rules are not defined,
and the factors are constantly changing. Sometimes a company
reports better-than-expected earnings and sometimes it
doesn’t. Sometimes a stock price goes up after the good report
comes out, but sometimes it goes down. Sometimes a com-
pany will announce a merger, and sometimes they’ll reject of-
fers and say they will never sell. At any given moment, a
company could issue more stocks because they need to raise
money and saturate the market with more shares. The only
thing that directly affects the price of a stock is the inflow of
cash from new investors, but many indirect factors can
influence the actions of the new investors.
Wall Street sells the idea of investing and tells everyone the
stock market offers better odds than casino games. But this is
not something they can show.
The idea that the stock market offers favorable odds for in-
vestors is not based on some math formula that can truly show
it is favorable. It’s based on an absence of legitimate math and
the inability to show that the odds are unfavorable. Wall Street
firms are legally allowed to portray the stock market as an in-
vestment vehicle with a probability of success that is greater
than 50%, even when they don’t know what the real
probability of winning is at all.
When in doubt, think positive, right?

CNBC USED TO HOLD A CONTEST called the Million Dollar Portfolio

Challenge. It was a stock investing competition where players
were given a mock portfolio with $1 million and a few months
to buy and sell stocks. The person with the most money in their
portfolio at the end of the contest was declared the winner. It

61
 The Ponzi Factor

was free to join, and it attracted as many as 375,000 contest-

ants in some years. The contestants ranged from novices with
no investing experience to professionals who worked on Wall
Street.
In 2007, a woman named Mary Sue Williams won the con-
test. Mary had never invested in stocks before. She bought one
stock at a time and picked her stocks based on things people
were wearing on the streets. She was a waitress in a small town
in Indiana, with no training or experience in investing, and she
beat out thousands of people, including finance professionals
and finance students, in the investment game.
The Observer conducted a similar contest in 2012. The con-
testants received a mock portfolio of £5,000 and a year to in-
vest in the London Stock Exchange. But there was one minor
difference. The contest was between amateur students, fi-
nance professionals, and a cat. Yes, a cat—a house feline
named Orlando who did all of his investing by throwing his fa-
vorite toy mouse onto an electronic grid. Orlando, the cat, won
the competition. Needless to say, the cat had never taken any
finance courses or passed any exams either.
These are just two of the many experiments that had similar
results over the past forty years. I’m sure there are some ex-
periments where financial professionals won the contest as
well, but we can see a pattern of how animals and amateurs
with no investment training or experience can outperform
well-paid financial professionals.
The results from these experiments support an idea that
was started in 1973 by Princeton University professor Burton
Malkiel where he claims, “A blindfolded monkey throwing
darts at a newspaper’s financial pages could select a portfolio
that would do just as well as one carefully selected by experts.”
If you think about it, there’s no legitimate profession in the
world where experiments like this will yield such results. An an-
imal or amateur can never be a better janitor, dentist, cobbler,

62
or server than someone who is trained in that line of work. But
an animal or amateur can be a better investor than the people
holding advanced degrees in finance.
I thought hard about why these experiments and results can
only happen with investment finance. The only thing I could
come up with is that legitimate jobs, like being a police officer,
pilot, writer, artist, etc., all require real skills, but finance is of
the gambling nature and requires luck.

RIGHT ABOUT NOW, there are usually a handful of people who

are thinking: You’re not telling us anything new. Everyone
knows playing with stocks is like gambling.
Unfortunately, this is not true. Many people believe stocks
are legitimate investment instruments because that is what
they are told by the media, government regulators, and univer-
sities.
Calling stocks gambling instruments is a severe accusation
and something Wall Street has never admitted on an official
level—like to the United States Congress, who has the power
to introduce new anti-gambling laws. This is why the advisors
at Alliance Bernstein, Ameriprise, and other asset management
firms never refer to the services they sell as gambling—that
and because they would most definitely be out of business if
they did.
But even if everyone did think of stocks as gambling instru-
ments, how stocks are perceived is irrelevant compared to how
stocks are treated by our regulators.
Mutual funds are supposed to be highly regulated invest-
ment funds that are available to the public. They are advertised
and treated as a safe investment instrument for long-term re-
tirement planning. But 60% of mutual funds play with stocks,

63
 The Ponzi Factor

and at the end of 2018, these highly regulated retirement in-

struments held almost $7 trillion worth of domestic stocks and
trillions more in international stocks.
Ask yourself: If everyone acknowledged that playing with
stocks is like gambling, would the federal government allow
the money that goes into pension plans (401(k), IRA, etc.) and
retirement instruments to end up in the stock market? Would
our universities teach classes on stock analysis if they admitted
that the odds of winning in the market weren't any better than
those offered at a casino?
Of course not. These things would not be happening if eve-
ryone knew and treated the stock market as a form of gam-
bling. But all these things are happening right now, every day,
because the government, regulators, and the finance industry
do not acknowledge stocks as gambling instruments.
When was the last time you heard a reporter or sponsor on
Bloomberg use the word “gamble” to describe stocks or stock-
related services? And when was the last time you heard them
say “invest”? If you can’t remember the latter, just turn on your
TV and give it a minute.
Stocks are not some exotic financial instrument that only a
small percentage of the population gets involved with. It is a
pervasive instrument that affects a lot of regular people who
are saving for retirement.
It’s not enough to think: Everyone knows that stocks are a
form of gambling, and laugh when we hear stories about a cat
beating finance professionals in investing contests. There is a
severe implication behind these events. Misusing the word “in-
vest” to describe a gamble is no different than a doctor abusing
the word “cure” for placebo.
If stocks are gambling instruments, then they need to be
treated as such. The United States has strict laws against online
gambling, while online trading firms like Schwab, E*Trade, and

64
Ameritrade are allowed to promote their services to people
who are eighteen and barely out of, or perhaps still in, high
school.
There are plenty of people who get addicted to online trad-
ing and have lost unimaginable amounts of money. We usually
don’t hear about it because the reality of what online trading
is, hasn’t been properly classified yet. The people who lose are
usually too embarrassed to talk about it, and they rationalize
their losses as the results of unlucky investing.
In Fairfax, Virginia, the same city where John Rubin ran his
hedge fund out of, the police department used heavily armed
SWAT teams to raid poker games held in private homes. There
was even an incident where an officer shot and killed an op-
tometrist as they were attempting to arrest just one person for
betting on sports. The shooting was an accident, but the Fairfax
County Police Department felt justified using aggressive, gun-
flashing tactics to enforce anti-gambling laws.
On the other hand, people like John go to work every day in
Fairfax, Virginia, gambling other people’s money from 9:30
a.m. to 4:00 p.m., but never got hassled by the police. There
was even a Scottrade near John’s office that actively called
people to solicit business. If the Fairfax County Police cared
about anti-gambling, they would shut down every finance firm
that claims to invest other people’s money and cannot prove
how they intend to be successful.
But, that isn’t going to happen anytime soon, and that’s be-
cause Fairfax County and the United States laws don’t care
about gambling. They only care about what people perceive as
gambling according to outdated definitions in the dictionary.

A FEW YEARS AGO, I WROTE A LETTER to Merriam-Webster asking

for advice on how to propose changes to the way the words

65
 The Ponzi Factor

“investing” and “gambling” are defined in the dictionary. I ex-

plained how invest and gamble should not describe two funda-
mentally different activities, but, based on the way the words
are used in our modern language and their origins, the defini-
tions should be differentiated by a specific level of risk associ-
ated with the activity. I proposed the following definitions (also
in the Lexicon section):
In a scenario where the payout is one-to-one, and the ex-
change, transaction, or wager does not involve the trans-
fer of any tangible assets.
Investing: a scenario where the odds ARE quantitatively
defined and favorable for the investor (favorable mean-
ing greater than 50% success rate).
Gambling: a scenario where the odds ARE quantitatively
defined and not favorable for the investor (equal to or
less than 50% success rate), OR a scenario where the
odds CANNOT be quantitatively defined at all.
There is no definitive way of calculating the odds of success
in the stock market, and therefore, stocks and stock-related in-
struments are all different forms of gambling.
I haven’t met a single person—including finance people—
who disagrees with these proposed definitions. It doesn’t
mean people in finance are ready to admit stocks are gambling
instruments, but they do respect the logic of these definitions.

THERE’S NOTHING WRONG WITH THE IDEA OF INVESTING. The issue is

no one has ever shown that it’s possible. There is no proof or
even evidence that shows we are entitled to earn free money
over time by trading imaginary paper like stocks. There is no
such thing as an infinite pool of money investors can draw

66
from, and there are no formulas that can show the odds of win-
ning on Wall Street are better than the games at a casino.
I met a professional card counter named Mike Aponte a few
years back. Mike was one of the original leaders of the MIT
blackjack team that was the basis of Ben Mezrich’s book
Bringing Down the House and the subsequent movie 21. His
name is well-known in the casino community, and he’s not al-
lowed anywhere near the blackjack tables in Las Vegas, Atlantic
City, or pretty much anywhere around the world.
I assumed that advantaged players like Mike, who spent a
lot of time inside casinos, also enjoyed playing other games,
like roulette, craps, or baccarat. So I asked him, “What else do
you like to play besides blackjack?”
He thought about my question with a puzzled look and then
replied softly, “You know…on my first trip to Vegas with the
team. I put a dollar in one of those slot machines at the Vegas
airport when I got off the plane. That was the only time I’ve
ever gambled.”

67
 CHAPTER 4

A Legitimate Idea
POSITIVE -SUM, AND THE ABSENCE OF PROOF

"The greatest enemy to knowledge is not ignorance, it is

the illusion of knowledge."
— Stephen Hawking

THE IDEA OF INVESTING CREATES A DEMAND FOR INVESTMENT SERVICES.

It helps explain why people think they need investment advice
and why financial professionals can make careers out of selling
it. But it doesn’t explain why financial professionals believe in
what they are selling.
Despite my criticism of the industry, I think most financial
professionals actually want to help people. Most of them
actually believe that investment systems like the stock market
are positive-sum and what they are selling has something of
value.
 The Ponzi Factor

The idea of positive-sum comes from Economic Game the-

ory, and it is defined as a situation where the net balance be-
tween the positives and negatives add up to something
positive. This fundamental idea is the starting point for every
legitimate idea in economics and finance. Economists do not
sit around developing negative-sum ideas and look for ways to
hurt the most people. They try to come up with positive-sum
policies that create more winners than losers. The same applies
to investing. No one wants to mess with a system that yields
heavier losses than wins. People want to put money into struc-
tures that produce more wins.
When economists work on an economic policy, like a free-
trade agreement that lowers taxes on imports, they examine
both the winners and the losers of the situation. The calcula-
tions are always skeptical at best, but if the policy looks like it
might yield more wins than losses—a positive-sum situation—
then it would make sense to develop the idea further. And if it
doesn’t, the idea will get buried.
A positive-sum situation acknowledges that there will be
both winners and losers, but as a whole, people win more than
they lose. A negative-sum situation implies more is lost than
won, and a zero-sum system implies the wins and losses are
equal. The investment finance industry is built on collecting
transaction and management fees, which means a zero-sum in-
vestment system, in theory, is always a negative-sum system in
practice because of the presence of fees. So, if the stocks are
zero-sum instruments conceptually, then they are also nega-
tive-sum instruments for investors in reality.
In economics, adding up all the positives and negatives to
determine if a scenario is positive, negative, or zero-sum isn’t
easy, because the unit of measurement isn’t always monetary
or tangible; it can be emotional as well, like when people spend
money, a negative, watching a movie they enjoy, a positive.

70
 But, in finance and investing, money is the only unit of
measurement that matters to investors. As I mentioned be-
fore, regular people from Main Street contribute money to re-
tirement plans that find its way to the stock market because
they want to make their money grow. To them, things like en-
tertainment value, job creation, and technical innovations are
secondary, at best, if they exist at all. The average investor
doesn’t care about running the company, shareholder meet-
ings, or voting rights, and even if they do care, it’s because they
think their efforts will help them get more money back later.
A legitimate investment system has to be positive-sum for
investors, with respect to cash, because that is what investors
ultimately care about.
The obvious way to investigate the positive-sum assump-
tion for stocks is to add up all the cash profits and losses from
investors over the years and see if the net balance is positive.
This is also where we run into a big problem: no one knows
how much money investors have lost in the stock market.
There is no database that keeps track of investor losses, and
from what I understand, the industry doesn’t want to track
such data either.
When I asked some investment bankers why such a data-
base has never existed, one replied, “Are you kidding me? Wall
Street would never let it happen. That would make everything
we’re doing look extremely questionable.”
It’s obvious that people in finance have made a lot of money
from the stock market, and so have the companies that issue
the stocks. But what we don’t know is whether or not inves-
tors—the ones who are contributing all the money—have
made money from the stock market, or if the system is even
positive-sum.
The burden of proving the positive-sum assumption rests
with the finance professionals and academics. They are the
ones who make money from selling stocks and stock-related

71
 The Ponzi Factor

services, so they have the responsibility of showing why it is

favorable for the investors who are paying their fees. This is
also something they have never done before. On the other
hand, critics of the stock market do not have to show why the
system is illegitimate or negative-sum because it is an artificial
system that shuffles cash and ambiguous promises, something
that is extremely questionable, to begin with—and something
that remains false until proven true. This clarification of re-
sponsibility for the burden of proof is obvious but necessary.
Finance professionals tend to ignore the obvious.
The investment industry does have models, formulas, and
graphs that make the stock market look positive-sum, but all of
the examples I’ve seen contain the “universal error” of assum-
ing asset value as an equivalent to cash—something I’ve men-
tioned before and will elaborate on in the next chapter. With
the right formula, anyone can project whatever number he or
she wants on a report. The assumed asset values on a com-
puter screen can be infinite. However, cash in real dollars in the
real world is finite.
Again, the US stock market has a value of over $36 trillion,
but there is only $3.3 trillion of cash available in the entire US
economy with only $1.7 trillion of it in circulation.
Ordinary people who know very little about finance can see
the problem with this discrepancy, but Wall Street and finance
academics celebrate as the stock market climbs higher and this
gap between assumed entitlement and reality grows wider.

IT IS NOT UNCOMMON to run into someone who’s passionate

about finance and calls it a science, but I assure you, these are
also the only scientists that believe a valid idea does not re-
quire any proof.
So what is a valid idea in science and academia?

72
 A valid idea in science has to be validated through the sci-
entific process and comes in two primary forms, theorems and
theories. A theorem requires proof with logical connections be-
tween axioms or other proven theorems, which is often seen
in math. A theory is an idea that cannot be proven by connect-
ing logic but is deemed valid through experiments and obser-
vations, which is a process that is usually seen in physics.
A theorem is an idea that has to be formally proven, and
once it is proven, it is treated as a truth that holds under any
condition within its defined universe. This is why theorems are
sometimes confused with axioms or definitions, which are self-
evident truths and defined statements. In mathematics, there
is no such thing as a legitimate idea with the absence of proof.
The Pythagorean theorem from Euclidian geometry de-
scribes the relationship between the sides of a right triangle
with sides {a, b, c}.

The theorem is a statement that basically says, “For any

right triangle: the length of the hypotenuse side, c squared
(𝑐 2 ), is equal to the sum of side a squared and side b squared
(𝑎2 + 𝑏 2 ).” This statement is expressed as a formula: 𝑎2 +
𝑏 2 = 𝑐 2 . We can tell if the formula works by plugging in ran-
dom numbers, but we know the formula works for any right
triangle within the Euclidian universe (flat space with no
curved surfaces) because it is derived from the theorem that
Pythagoras proved.
Some scholars believe Pythagoras proved his theorem using
a method called proof by rearrangement—a somewhat visual
proof.

73
 The Ponzi Factor

Step 1: The proof starts with two square frames of equal

sizes and eight triangles of identical side lengths.

Step 2: The next step is to put four triangles inside each

square.

Step 3: Rearrange the triangles to show how the uncov-

ered space in the left frame has the area 𝑐 2 , and the un-
covered space in the right frame has the area 𝑎2 and 𝑏 2 .

Conclusion (Q.E.D.): Both the square frames are of equal

size, and so are the four triangles inside each frame. This
means the uncovered space in both frames are equal as
well.

74
 Many believe this was how Pythagoras connected the logic
and proved his theorem.
Proofs are difficult for people to grasp because they involve
abstract ideas and relationships, rather than numbers. Don’t
worry if you did not understand all the details. The important
thing to understand is that valid ideas in legitimate academic
fields like math require proof.
Ideas in math and science build on each other. The Pythag-
orean theorem is from geometry, but the idea is used in theo-
rems for calculus and linear algebra as well. It is dangerous to
develop complex ideas on top of simple ones that have never
been proven. Imagine if a formula did not hold true under cer-
tain conditions on a flat piece of paper, in two dimensions, and
we started using it in models for constructing buildings in three
dimensions!
The mathematician Ian Steward wrote in Concepts of Mod-
ern Mathematics:
“There are theorems which most practicing mathemati-
cians are convinced must be true; but until someone
proves them, they are unjustified assumptions, and can-
not be used except as assumptions.”
In contrast, there are ideas in finance, which many finance
professionals are convinced must be true. Even when they
have been proven false, people are still convinced they are
true.
The finance industry uses theorems that have been proven
in the field of mathematics. But there are no financial theorems
or proof of any kind that support the positive-sum assumption
about investment systems like the stock market.
It is important to recognize that there is also a big difference
between evidence and proof. A typical mistake people tend to
make is confusing evidence for proof. It is not uncommon to
hear someone say, “Of course the stock market is positive-sum.

75
 The Ponzi Factor

Look at all the people who have made money!” However, this
is evidence, not proof, and this exact statement could be said
about Bernard Madoff’s Ponzi scheme in 2005, which didn’t
end up so well for his investors in 2008.
A proof does not just look at a few data points, such as how
some people made or lost money. It looks at the underlying
structure to see if the system can logically produce more
money than people put in and accurately predict outcomes
even for situations that have not been observed.

AN INTERESTING THING ABOUT PROOFS is that it does not require

data. Pythagoras could not have proven his theorem by plug-
ging numbers into the formula starting from one and going to-
ward infinity. People think highly of data these days, but data
can only produce likelihoods, not certainty. Data can help
illustrate, and model ideas people conceive, but it cannot
prove the validity of an idea.
However, there are legitimate ideas in science that are also
unprovable and rely only on data for validation. The next best
thing to a theorem is a theory, which is a hypothesis or edu-
cated guess that has been validated through experiments and
observation. Theories are legitimate ideas that are usually
observed in physics.
The scientifically accepted description of gravity is a theory,
and it is not something we can prove. We have formulas that
describe how gravity works and experimental data to validate
the accuracy of those formulas, but there is no way to connect
logic or axioms and definitively say that gravity will work the
same way every time, under any and all conditions.
It has been told that Einstein once said, “No amount of ex-
perimentation can ever prove me right; a single experiment
can prove me wrong.”

76
 Theoretical physicist Lisa Randall, says, “A theory yields a
specific set of equations and predictions; ones that are born
out of successful agreement with experimental results.”
Dr. Stephen Hawking said in his book A Briefer History of
Time, “A theory is a good theory if it satisfies two requirements.
It must accurately describe a large class of observations on the
basis of a model that contains only a few arbitrary elements.
And it must make definite predictions about the results of fu-
ture observations.”
In contrast, a good theory in finance is one that describes a
few observations using complex models containing many de-
batable elements and makes no definitive predictions about fu-
ture events.
Scientists have slightly different interpretations of what a
theory is, but the general consensus is that a theory is an idea
that has been validated with experimentation and can yield re-
peatable results. It can explain historical observations and be
used to predict the outcomes of future events.
So are there any validated financial theories that support
the positive-sum assumption about stocks and the idea of in-
vesting?
Absolutely not.
The word “theory” gets thrown around a lot in finance, but
it’s used to describe just about any nice-sounding idea. The
idea doesn’t always have to hold true on paper, and it’s often
something that has been tested with observed outcomes that
failed the experimentation process. It is usually used to de-
scribe ideas that would normally be regarded as failed hypoth-
eses in legitimate sciences.
You can find ideas like “The net present value of a stock is a
reflection of the future cash flows” or “Owning stocks is like
owning a piece of a company” in textbooks. They are treated

77
 The Ponzi Factor

like self-evident truths or unquestionable facts by finance pro-

fessionals and preached to the public without hesitation or
thought. But those ideas are not theories, theorems, or even
the mildest form of truth. They are conjecture or hypotheses
at best or ideas that failed the validation process and would’ve
been rejected as rubbish in legitimate science fields.

THE PUBLISHED ACADEMIC IDEAS in finance are usually in the form

of models, which are essentially elaborate calculators that
don’t prove anything factual but illustrate data points. A fa-
mous one used for pricing options is the Black-Scholes (BS)
model. Two of the authors, Myron Scholes and Robert C. Mer-
ton, were even awarded a Nobel Prize for their work. 10

The BS model was designed to help determine the price of

derivative contracts called options—which are like side bets for
stocks. As you can imagine, an instrument that prices options
can be useful if you are an options trader on Wall Street. The
research that went into constructing the model will also look
meaningful if you’re a finance academic that thinks: The stock
market is a complex system, and options are complicated in-
struments. It’s important to develop models to illustrate the
data and help everyone gain a better understanding of how the
markets work.
This sounds reasonable, which is why our universities love
this type of research. But let’s take a step back, look at the big
picture, and examine the fundamentals of why options even
exist. Does the BS model and its application for pricing options
add any value to the real world if the stock market isn’t even
positive-sum, to begin with?
The only reason option contracts exist is because investors
buy stocks. But the only reason investors buy stocks is because

* Fischer Black, passed away before the Nobel Prize was awarded.

78
they believe the stock market is positive-sum and they will get
back more money than they put in. But if the stock market is
zero or negative-sum, then investors wouldn’t be buying
stocks. And if investors don’t buy stocks, then there wouldn’t
be a need for options contracts either. And if no one is playing
with options, the Nobel Prize-winning BS model that those bril-
liant mathematicians worked so hard on is essentially worth-
less.
The positive-sum assumption is the foundation of every fi-
nancial idea and innovation. If the stock market is not positive-
sum, then the instruments and research developed for the
market and its derivatives, including textbooks and university
courses, are essentially worthless.
We can use mathematical theorems to create an elegant-
looking quantitative model for any casino game and diversify
our bets in almost an infinite number of ways for a game like
roulette. However, such models and tools have no value for the
player, or the greater world if the game is not even positive-
sum, to begin with.
There is a difference between modeling the behavior of a
financial instrument and assuming that such instruments or re-
search are creating something of value for society. Financial
models and innovations might serve a purpose on Wall Street
because they are designed around the artificial rules and
games people on Wall Street play. But they have little, if any
purpose at all, in the real world we live in. 11

The published works in math and physics have helped ad-

vance our understanding of technology and medicine with tan-
gible results. The published works in finance are developed to

* The BS model is a multivariable quantitative model, and like all forms of

math, including the equation 1 + 1 = 2, it can be applied to things outside of
finance as well. So, the BS model could have some usefulness outside of fi-
nance as well. But BS was designed to price options, and to my knowledge, it
is only used by option traders.

79
 The Ponzi Factor

help the industry shuffle other people’s money and collect

fees, at best, or create economic disasters, at worst.
The two Nobel laureates, Scholes and Merton, served on
the board of directors for Long-Term Capital Management. The
hedge fund was founded in 1994 and is famous for nearly col-
lapsing the financial system in 1998 with what some called
high-risk arbitrage trading strategies. The disaster was averted
with a bailout that involved government and private interven-
tion, and the firm went out of business after the fiasco.

As I mentioned in Chapter 2, it’s not difficult to come up

with a strategy that works nine out of ten times. But the issue
is that tenth time—the one time that it does not work.

THE FINANCE ACADEMICS UNDERSTAND the importance of the posi-

tive-sum idea, but they have done nothing to show that it is
even valid for the stock market. And if you think about it, why
would they even try? How would validating the positive-sum
idea benefit these institutions in any way?
If they do somehow prove the stock market is positive-sum,
then it’s business as usual. But if they discover that stocks are
zero or negative-sum instruments, then they would have dug
their own graves.

80
 The heart of the problem is not Wall Street but the univer-
sities and academics that teach these flawed ideas so people
can work on Wall Street.
The first time I realized the troubling role our universities
play on Wall Street was after seeing the movie The Inside Job.
The documentary explored the issues that led up to the 2008
financial crises. One of those issues is how interconnected Wall
Street is with our top universities. The documentary exposed a
pattern of how academics from top schools like Harvard, Co-
lumbia, and UC Berkeley, make money on the side consulting
for Wall Street firms, serving on their boards of directors, and
advocating Wall Street-friendly policies to the government.
This was not a complete surprise to me, but it was the first time
I saw someone point the finger directly at our prestigious aca-
demic institutions and convey: You are a culprit. You are not
free from guilt. You are a part of the problem.
And it made perfect sense.

FOR A MOMENT, LET’S IGNORE EVERYTHING I have presented and as-

sume we know absolutely nothing about the stock market
other than that it is a system where people have won and lost
money.
Some believe the system is positive-sum because they know
people who have made money, and some believe the system
is zero or negative-sum because they know people who have
lost money. Both sides have evidence to support their claims,
but neither side knows what the total score is (how much has
been won or lost comprehensively).
Looking at this situation from a completely neutral
perspective, both sides have valid arguments and the truth will
require some research. Therefore, wouldn’t it be prudent for
our universities to investigate both arguments?
Of course, they should—but they don’t.

81
 The Ponzi Factor

Our universities assume the positive-sum argument is cor-

rect and ignore the other side of the argument altogether. It’s
not that they didn’t investigate the negative-sum argument;
it’s that they did not investigate anything at all! They just in-
doctrinated the positive-sum assumption as truth and ran with
it.
Finance academics have actually gone to great lengths to
rationalize why proof for the positive-sum assumption is un-
necessary. A shared excuse I’ve come across is: Finance should
not be compared to a hard science like math or physics. Fi-
nance is a soft science like economics and medicine, which do
not always yield definitive or repeatable results. It sounds rea-
sonable, but then again, all good excuses sound reasonable to
some degree.
The problem with that comparison is that economics and
medicine are imperfect social sciences that were developed to
address real problems that arise naturally, like how to provide
shelter and education for a growing population, or how to treat
illnesses caused by mutating bacteria or viruses.
On the other hand, the problems in finance are all artificial
problems created by the finance industry itself, spawned by
the minds of people who study and teach finance. There is
nothing natural about market crashes and derivative contracts.
The industry created these synthetic instruments so they can
sell services and collect fees. They have done nothing to show
whether or not their ideas make sense, or if the investment
system they so passionately believe in is even positive-sum.
Finance is nothing like economics or medicine. It is more like
a racket that tries to solve the very problems it creates.

IT IS THE RESPONSIBILITY OF OUR UNIVERSITIES to teach valid ideas

and investigate questionable ones, but this is not what has
been happening in finance departments. They invest money

82
into researching complex ideas that assume the stock market
is positive-sum, and not a dime to investigate whether the un-
derlying assumption is even valid. Even worse, they have a pro-
cess that actively rejects any research that questions the
validity of these fundamental assumptions.
I attended a graduate school fair a few years back where
several business and economic schools from across the US
were in attendance. One of the things I wanted to find out was
whether or not it was possible to get into a Ph.D. program if
your research idea is fundamentally different from the topics
that school is researching. I wanted to go to graduate school,
and needless to say, I was having a hard time finding a school
that cared about researching whether or not the stock market
is positive, zero, or negative-sum.
During a Q&A session, I asked the professors on the po-
dium, “What advice can you give someone who wants to re-
search something that might not be in line with what the
school is currently researching?”
They thought about it in silence for a while, and then one of
them responded, “That’s a good question…I think the
important thing is that you want to make sure the school is a
good fit for you.”
The suggestion that people should apply to schools that
share their interest sounds reasonable, but it is also a backward
way of thinking. Every good scientist understands that ideas
evolve from “funeral to funeral”; this means a new idea that
will be discovered tomorrow will not only be more revealing
and accurate than what we have today, but it will also prove
many—perhaps even all—of our current beliefs around that
subject false.
“You want to make sure that we are a good fit for you”
sounds like reasonable advice, but it also advocates a process
that actively rejects new research.

83
 The Ponzi Factor

If you think stocks are great and want to research how they
can be integrated into the social security system, you’ll be a
good candidate for just about any school out there, even
though no one knows if the stock market is even positive-sum.
But if you want to investigate the depth of investor losses over
the past century, you’ll have a tough time finding an institution
that cares, even though there is no shortage of investors who
have lost money in the system.
As for why this is the case, my only guess is that it is because
researching investor losses is not profitable for the universities
and the results could discredit their business and finance
schools, which are also extremely profitable departments.

OCCAM’S RAZOR is a concept that says the explanation with the

fewest assumptions is often the best. The simple explanation
for why there are no theorems or theories that can show how
investment systems like the stock market are positive-sum is
because systems like the stock market are not positive-sum.
The flags are everywhere if you ignore the conventional
teachings and look at the finance industry from a completely
unbiased perspective.
Investment finance is the only industry where experiments
have shown that animals and amateurs with no investing expe-
rience can outperform seasoned professionals who hold ad-
vanced degrees in the subject. It is the only industry that claims
its structure is positive-sum, even when almost nothing is
known about how much investors have lost. It is the only in-
dustry where people can report imaginary profits that will
never materialize. The only industry that lets firms advertise
the value of their services without evidence of its effectiveness.
And the only industry where it is considered normal to misuse
vocabulary like arbitrage and hedge to describe things that are
not risk-free and very risky.

84
 Finance professionals are some of the most productive and
industrious people in the world, but unlike other industries,
there is little evidence their efforts will lead to anything of
value. If you give a janitor or dentist an extra hour to work, they
will provide a more sanitary environment or a happier patient.
If you give a financial analyst extra time to work, they might
come up with a scheme that leads to the next financial crisis.
Make no mistake about it: the collapse of 2008 and every fi-
nancial crisis before it could not have happened without an
army of financial professionals working overtime in the years
leading up to it.
These points do not formulate a definitive proof that con-
demns the industry, but it is more than enough evidence to
hint at the possibility that there is something false and illegiti-
mate at the fundamental level. But instead of questioning or
investigating these issues, our top universities are telling peo-
ple to ignore the obvious contradictions and focus on develop-
ing sophisticated models based on unproven assumptions—
which adds no value or certainty to the ideas they teach.
We have a tendency to assume wealth and repetition as val-
idations for truth. But truth has to be grounded in logic.
If the investment system were positive-sum, finance profes-
sionals wouldn’t need to wear suits to sell services any more
than a restaurant would need advertisements for handing out
free food.

85
 CHAPTER 5

The Universal Error

ASSET VALUE ≠ CASH

"You know what a Fugahzi is?”

“No-Fugazi, it’s a fake.”
“Fugazi, Fugahzi, it’s wahzi, it’s a woozie. It’s fairy dust. It doesn’t ex-
ist. It’s never landed. It’s not on the elemental chart. It—it’s not fucking
real. We don’t create shit. We don’t build anything.
So if you got a client who bought stock at $8 and now sits at $16, and
he’s all fucking happy. He wants to cash in. Liquidate. Take his fucking
money and run home. YOU DON’T LET HIM DO THAT! Because that
would make it REAL!
NO! What do you do?
You get another brilliant idea. A special idea. Another ‘situation,’ an-
other stock—to reinvest his earnings and then some. And he will,
every single time, because they are fucking addicted. And you just
keep doing this, again and again and again. Meanwhile, he thinks he’s
getting shit rich, which he is—on paper. But you and me, the brokers.
We’re taking home cold-hard cash via commission, mother-fucker.”
—The Wolf of Wall Street
 The Ponzi Factor

In His Book Thinking, Fast and Slow, Dr. Daniel Kahneman

talks about a study conducted by psychologists Christopher
Chabris and Daniel Simons that demonstrated how focus on a
task can make people effectively blind to things that would
normally attract attention.
In their experiment, Chabris and Simons showed a video of
a basketball game to thousands of test subjects who were
asked to count the number of passes one of the teams made.
Halfway through the video, a person in a gorilla suit appears
and walks across the court for about nine seconds, thumping
at its chest. The real test was to see if the subjects, who were
counting the number of passes, noticed the gorilla crossing the
court. The result was, more than half the test subjects did not
notice the gorilla during the game.
In the words of Dr. Khaneman, “The gorilla study illustrates
two important facts about our minds: we can be blind to the
obvious, and we are also blind to our blindness.”
The biggest lies are the ones hiding in plain sight. We look
for hidden things in dark corners, but when something is obvi-
ous, it doesn’t even feel like anything is missing.

THE REASON WHY $1 TRILLION of value can disappear in a day is

because: $36 trillion of stock value = $0 in real money. The
money didn’t go anywhere. There was nothing there to begin
with. It started at $0 and remains at $0. The numeric market
value is nothing more than an imaginary idea Wall Street
planted inside people’s heads, and it’s not real. 12

I have regarded the stock market value of $36 trillion for the
NASDAQ and NYSE as a meaningless number throughout the
book. In this section, I am going to go a little deeper and explain
why this number is so irrelevant.

* The NYSE and NASDAQ lost $1 trillion of value on August 14, 2019.

88
 A few years ago, I watched a finance professor at the Uni-
versity of Chicago start his Introduction to Asset Pricing class
by showing the graph above, describing:
“This is if you invested one dollar in 1926 in stocks and
how much MONEY you would have at each date (without
inflation). If your great-grandfather or grandmother put
one dollar in stocks in 1926, you would have about $250
REAL DOLLARS today (2013).”
This is a common example used in many Introduction to Fi-
nance courses. It’s meant to show how people can make
money from stocks and make the stock market appear posi-
tive-sum. But this example is also entirely flawed.
The first problem is how the professor did not consider all
the investors that are involved. He describes how an early in-
vestor in 1926 can buy into the market for $1 and cash out for
$250 in 2013, and live happily ever after. However, he does not
consider the fact that a new investor in 2013 is also going to be
down $250.
The professor’s technique of concluding stories prema-
turely on a high note, and focusing on the winners, is common
in finance, and it can make any shady scenario look positive-
sum.

89
 The Ponzi Factor

The second problem, and the more important one, is the

universal error of assuming asset value as a cash equivalent.
The professor says “money” and “real dollars” when he is re-
ferring to an assumed asset value and not “money” or “real
dollars” at all. His chart does not represent “how much money
you would have at each given date.” It represents how much
money the early investor from 1926 thinks he is entitled to at
each given date. But in reality,
the investor is really down -$1
because that is how much he
paid for the stock.
The universal error of not dis-
tinguishing the difference be-
tween an assumed asset value
and cash gives people a false per-
ception of reality, and it is prob-
ably the most fundamental and
technical reason for how we ar-
rived at a $36 trillion market
value with zero real dollars ($0)
in the market.

IN MATH AND SCIENCE, it is absolutely necessary to use proper

notations to distinguish things that are fundamentally differ-
ent. A line that is eight inches long is fundamentally different
from a surface area of eight square inches, and both are
different from volume, which can be stated as eight cubic
inches. The length, the surface area, and volume are
completely different, which is why we have specific notations
for each value. If we didn’t, we would have a complete mess,
and many of our technologies and innovations would not exist.

90
 This is where I see a big problem with finance and econom-
ics. Our current reporting systems use the universal dollar/cur-
rency symbol $ to represent things that are fundamentally
different. The characters “$100,000” are used to represent
$100,000 of cash, $100,000 in real estate, and $100,000 in
stocks. However, cash, real estate, and stocks have about as
much in common as a line, surface area, and volume.
Government-issued cash currency was created as a medium
of exchange to assist transactions and the exchange of goods
and services. It is called legal tender, which means it is legally
recognized as a valid form of payment for all debts, public and
private. It is uniquely different from real estate, stocks, and
pretty much everything in our world.

If you have $100,000 in your bank account, that is the

amount of money you are entitled to. It is not all in the form of
cash currency sitting idly in the bank. Some of it is in the form
of demand deposits because the cash is usually loaned out to
other people, but there are names attached to every dollar that
is lent, and the people who borrowed the money have a re-
sponsibility to repay what they took. If the borrower can’t pay
it back, the bank will pay it back, and if the bank can’t pay it
back, the Federal Deposit Insurance Corporation will pay it
back (up to a limit). Ultimately, you are entitled to the $100,000

91
 The Ponzi Factor

you see in your account, and it is backed by multiple private

and government guarantors.
Real cash-currency is finite in quantity. Governments have
ways of increasing the money supply and can create money
with relative ease, but they understand it carries severe eco-
nomic consequences, so when it is done, it is done with a lot of
control and prudence.
Real estate and other tangible goods can be priced in terms
of cash, but they also have intrinsic physical values, which exist
even in the absence of cash. If the real estate market closed
tomorrow, the people who want to buy homes would be dis-
appointed, and the agents would be out of work, but the peo-
ple who own homes would still have their homes. If they
needed to, they could barter their homes for other necessities
without exchanging money.
Stocks are intangible things that are priced in terms of cash,
but the price of a stock is not legitimately backed by anyone. If
you have a $1,100 share of Google, the only money you are
entitled to from Google is the par value of $0.001. This also
means if you are holding $110,000 in Google stocks, you are
technically only owed $0.10.
Stocks are like IOU notes based on real companies but with-
out the “I” or a defined person or entity who is responsible for
repaying the note. If the stock market closed tomorrow, and
money from new investors stopped entering the system, the
investors holding stocks would have no way of getting their
money back. Even under the best conditions where they can
redeem some of their stocks with the underlying company be-
yond the par value, stock investors still won’t receive anything
close to the $36 trillion of value they think they are entitled to
because that amount of money simply doesn’t exist.
Now, there are occasions when a company uses its stocks
like currency in a business transaction—but it is wrong to con-
fuse this rare action with the assumption that stocks are a form

92
of currency. The existence of these situations just means that
there are limited circumstances where someone will accept
stocks as payment. But in no way, are stocks anything close to
the credibility of legal tender backed by the government. Com-
panies create stocks because they need to raise cash. However,
cash is never created as an instrument to raise stocks.
An important characteristic, which separates things that are
real versus imaginary, is the amount of work involved in the
replication process. Tangible goods like a house, take time, la-
bor, and resources to reproduce. They are difficult to replicate
and finite in quantity. On the other hand, imaginary things like
stocks can be issued by anyone. They are easy to replicate and
can be infinite in quantity.
Ultimately, it’s all about legitimacy. A real estate transac-
tion has legitimacy because the value of the property is backed
by the physical value of the property itself. The value of a dollar
has legitimacy because the value is backed by the United States
government. The value of a bond is also legitimate because
there is a defined entity that is responsible for repaying the
face value of the bond. However, the value of stocks has no
legitimacy because neither the underlying company or anyone
has any obligations to repay the shareholders anything. 13

If you have $100,000 in cash, you can buy whatever you

want with it. If you have a house that is worth $100,000 and
can’t sell it, you are still left holding a house. But if you have
$100,000 of stocks and can’t sell them for cash, you could be
left holding nothing.

IT IS CLEAR THAT THERE ARE FUNDAMENTAL DIFFERENCES between

cash, tangible goods, and stocks. However, these differences

* Sometimes I treat the par value of $0.001 as zero (for obvious reasons).

93
 The Ponzi Factor

are not apparent when we use the same characters—

$100,000—to represent all three.
Small things, like notations, can make a big difference.
The improper use of the dollar symbol $ doesn’t seem very
significant, but it might be the key reason for why finance and
economic ideas are so underdeveloped. It is hard to imagine
how something so simple can be responsible for so many prob-
lems, but any mathematician can tell you that the power of the
right symbol is not something to be overlooked. It’s easy to see
how 17 + 4 = 21. Now, try adding XVII + IV.
The universal error may have created many problems, but
the good news is, there is a simple solution: we just need to
come up with a way to notate different things, differently.
Obviously, we should keep the currency symbol $ as it is when
referring to cash, but for tangible assets, we might want to use
something like ^, so the property that is worth one hundred
thousand dollars is written as ^100,000. And for stocks and
other questionable assets, we should use †, like †100,000 in
stocks. It will look and feel a little awkward at first, but it’s not
hard to get used to. It is not a perfect solution, but it’s a start.14

Proper notations will help eliminate the universal error in

the written form, but verbally, the world of finance will have to
learn how to properly use words like dollar, money, and cash
on their own. Fixing the verbal issues are going to be a lot
tougher because it is habitual, and people in finance are gifted
at misusing vocabulary.
However, I think as the general population gains a better
understanding of what stocks are and why their values are so
meaningless compared to cash and tangible things, they will
also be able to hold the industry more accountable for their
flaws.

* This is the caret symbol: ^ This is the dagger symbol: †

94
 As I mentioned before, I believe people are far too intelli-
gent to be brainwashed, but we can be miseducated. For many,
the false programming starts with examples like the one from
the University of Chicago. For some, their education will end
with graduate degrees and classes from people like Gabriel Bi-
tran, who taught at the Sloan School of Business at MIT for
thirty-five years, and ended his career pleading guilty to fraud
charges from the SEC.
I’m not suggesting all finance academics will end up com-
mitting crimes, but finance is the only industry, and the only
academic field I know of where a professor can face a jail sen-
tence practicing what he preaches.
As Dr. Taleb once said, “Education makes the wise slightly
wiser, but it makes the fool vastly more dangerous.”

95
 CHAPTER 6

The Stock Market

DIVIDENDS AND PONZI PROFITS

"In a classic Ponzi scheme, you can keep it going as long

as there is somebody else to bring more money."
— Yahoo! Finance reporter Aaron Task

“I DON’T KNOW WHAT YOU and that group of yours are trying to
cook up, Tan, but what you’re describing sounds a whole lot
like a Ponzi scheme.”
That’s what my friend’s father said to me when I tried to
recruit his son into a network marketing group I joined when I
was eighteen. I was actually trying to get my friend involved in
a pyramid scheme, but I must have explained it poorly because
his dad definitely thought I was trying to get his son involved in
a Ponzi scheme.
That was the first time I heard the term Ponzi scheme. I had
a feeling it was something bad but didn’t know how the scam
worked.
 The Ponzi Factor

A few years later, my friend Paul explained the process dur-

ing a lack lustered attempt to recruit me. He said, “Tan, some-
one told me about a way you can make 10% on your money
every month. You want in?”
“Sure! What is it?” I replied.
“I can tell you, but only if you commit. But after you find
out, you’ll probably say it’s really, really stupid,” said Paul.
“Dude, what is it?”
“I’ll only tell you if you commit. You in?”
“NO! Just tell me already!”
Paul was a close friend. He knew I was curious and impa-
tient and he wanted to get a good laugh in before letting me
off the hook. After a few more exchanges, with him withhold-
ing information and me trying to extort it, he finally explained
how it worked.
It was a classic Ponzi scheme, and I thought it was brilliant.

A PONZI SCHEME is a scam where current investors’ profits are

paid out with either their own money or money from other in-
vestors. Here is what you should do if you want to run your
own Ponzi scheme:
Step 1: Start by making up some clever-sounding invest-
ment strategy that is simple enough to understand but
difficult to verify, and tell people they can make a nice
return—let’s say 10% a month (or a year or whatever
sounds believable and good).
Step 2: Take the cash from those who want to invest.
Step 3: At the end of the month, pay your investors the
10% on their money like you promised.
The success of the proposed investment strategy, which
really doesn’t exist, is completely irrelevant because you are

98
going to pay your investors with the money they gave you or
the money you receive from other investors. You’ll make your
fee from shuffling their money, and they’ll keep giving you
money because they think the profits are coming from some
legitimate external source—a non-investor or end-users from
business activities. As earlier investors get paid out with the
fantastic returns you promised, more will join, and you can al-
ways deliver what you promised as long as there is cash coming
in from new investors.
You can pull off the scam with just about any fictitious in-
vestment strategies, but the ones that involve tangible assets,
like art or real estate, can be more difficult. Those are physical
goods, so if someone wants to see them, you’ll have to find a
way to produce them. Bogus strategies involving financial in-
struments like stocks work a lot better because they only ap-
pear as numbers in reports. Most people in finance have no
idea what a stock even looks like, or what to do if they held the
physical note in their hands.
The interesting thing about a Ponzi scheme is that investors
can still make money even if the scheme ends up collapsing. In
fact, the scam can actually produce more winners—people or
accounts that realize profit—than losers. This is why a majority
of Bernard Madoff’s investment accounts showed a net profit
despite the fact that more money (total cash) was lost in the
scam than won. The last investors will suffer the greatest, or
maybe even all the losses, so the trick is staying out of that lat-
ter group—like knowing when to sell when it comes to holding
stocks.
The Ponzi schemes (noun) we’ve heard about, like Madoff’s
fund, are the ones that collapsed, but the Ponzi process (verb)
can continue indefinitely as long as investors keep contributing
money into the system. To me, a scheme implies something
short term with a foreseeable end, but an investment system

99
 The Ponzi Factor

that follows the Ponzi process can continue indefinitely for dec-
ades or even more than a century. Regardless of how long a
Ponzi scheme can stay afloat, the general consensus is that
they are all destined to collapse. This idea isn’t proven but
sounds sensible for a scam that sells itself as having infinite po-
tential in a world that has finite resources and cash.
Ponzi schemes experience signs of trouble when there is an
absence of cash from new investors or if enough of the current
investors want their money back and realize what they thought
they had isn’t really there. Both scenarios will lead to a collapse
or a massive pullback at best.
Again, the US stock market is valued over $36 trillion. But
there is only $3.3 trillion of cash in existence in the entire US
economy, which includes the spare change laying around your
home right now.

FAMOUS FINANCE GURUS, many of whom still believe in the stock

market, have been dropping hints about the similarities be-
tween the stock market and a Ponzi scheme for decades.
In his book A Random Walk Down Wall Street, Dr. Burton
Malkiel writes:
Robert Shiller describes bubbles in terms of “positive
feedback loops.” It starts when any group of stocks begin
to rise. The updraft encourages more people to buy the
stocks, which causes more TV and print coverage, which
causes even more people to buy, which creates big
profits for early stockholders. The successful investors
tell you at cocktail parties how easy it is to get rich, which
causes the stocks to rise further, which pulls in larger and
larger groups of investors. But the whole mechanism is a
kind of Ponzi scheme.

100
 People in finance will agree with what Dr. Shiller and Dr.
Malkiel said about how bubble scenarios are created with a
Ponzi-like process. But what is the real difference between a
bubble scenario and what finance professionals call normal
growth? What is actually causing the appreciation in stock
prices?
The only difference between the bubble and growth sce-
nario is speed—how fast the prices are rising. But speed does
not cause the inflation in stock prices. It just implies that the
inflation is happening quickly. The thing responsible for the ris-
ing stock prices in both bubble and growth scenarios is addi-
tional cash from new investors.
The “Bond King,” Bill Gross, said he thinks there’s something
Ponzi-like happening with stocks because the growth in stock
values has outpaced the growth in the Gross Domestic Product
(GDP), the general measurement of overall growth in the econ-
omy.
In an interview in 2012, he said, “The 6.6% real return belied
a commonsensical flaw, much like that of a chain letter or yes,
a Ponzi scheme…If wealth or real GDP was only being created
at an annual rate of 3.5% over the same period of time, then
somehow stockholders must be skimming 3% off the top each
and every year.”
I don’t agree with all the technicalities of his statement, but
Bill Gross is a highly respected person on Wall Street, and he
used the word “Ponzi” in association with the stock market.
When I refer to the word “Ponzi” in these pages, it is to de-
scribe a specific process of how money is exchanged between
participants. When someone on Wall Street uses the word
“Ponzi,” it is a synonym for fraud or scam.
The former Director of the Quantitative Strategies Group at
Goldman Sachs, Fischer Black, wrote a short essay stating,
“Certain economic quantities are so hard to estimate that I call

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them ‘unobservables’…Our estimates of expected return—the

amount people expect to make or lose when buying a secu-
rity—are so poor they are almost laughable.”
In his book titled Antifragile, Dr. Nassim Nicholas Taleb
states, “Risk is not measurable outside of casinos or the minds
of people who call themselves risk experts.” He goes on to ex-
plain, “The impossibility of calculating the risks of
consequential rare events and predicting their occurrence” as
the black swan problem.
Both Dr. Black and Dr. Taleb attributed the shortfalls of fi-
nancial analysis to some unforeseeable factor(s). And, I believe
the unforeseeable factor they are talking about is the Ponzi
Factor: money that comes from new investors. The Ponzi Fac-
tor is not unforeseeable; it’s just impossible to calculate. It’s
hiding in plain sight and ignored in financial analysis.
As for why? Well, first of all, you can’t quantify the Ponzi
Factor. And if you can’t quantify something in financial analysis,
you just ignore it. Second, and most importantly, acknowledg-
ing the existence of the Ponzi Factor is also an admission that
the stock market is similar to a Ponzi scheme.

THE STOCK MARKET IS SIMILAR TO A PONZI SCHEME because it is a

system where current investors’ profits are dependent on cash
contributions from other investors. As I mentioned in the
introduction, the Ponzi process is self-evident when we look at
a typical stock transaction. When an investor buys a stock for
$10 and sells it for $11, that $11 comes directly from another
investor, and then that new investor will start looking for yet
another investor who might want to pay $12 for the stock, and
so on.
The important thing to notice is that the underlying
company doesn’t contribute any money into the transaction,
and the company isn’t obligated to buy back their own shares

102
for anything more than the par value of $0.001. Therefore, the
company cannot be directly responsible for whether or not
their investors will make money.
It is possible to argue that the company can be indirectly
responsible for the earlier investors’ profits by reporting good
earnings, or in Tesla’s case—since the company never made
any money, just hyping themselves up in the media and pump-
ing up the demand for their stock. But indirect factors are spec-
ulative and irrelevant compared to the direct factor that is
definitively responsible for the earlier investors’ profits—the
cash from another investor.
If a company is not directly responsible for the investors’
profits, then the relationship between the shareholders and
the business becomes disconnected, and whether or not the
stock is an equity instrument that represents ownership in the
company also becomes questionable, something I will elabo-
rate on later.
There are supposed to be “two ways” for investors to make
money with stocks. One is through dividends, which is money
that comes from business profits. The second is through capital
gains—the buy-low, sell-high gamble on possible stock value
appreciation. Profits from dividends are legitimate profits be-
cause they come from business activities and are paid by the
underlying business. Profits from capital gains are Ponzi profits
because they come from other investors. There is nothing
wrong with a scenario where investors can make money from
both dividends and capital gains. But there is something
extremely wrong with a zero-sum scenario where the only
guaranteed way investors can make money is by taking it from
other investors with capital gains. And sadly, this is exactly how
most stocks work in the current system.
The majority of the stock market is made up of common
stocks, which are basically notes with the company’s name on
them, but they don’t guarantee any dividends or payments. In

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 The Ponzi Factor

some cases, like with Google’s class C shares, which make up

the majority of the company’s shares, they don’t even come
with voting rights. Common stock shareholders are not entitled
to any operational profits from the business, and the only prac-
tical way investors can make money is by selling their shares to
other investors using the Ponzi process.
There are exceptions, of course. Companies like Microsoft
and McDonald’s have a history of paying regular dividends—
whether the amounts paid are reasonable compared to the
profits the companies earn can be subjective, but they do pay
their investors on a regular basis. However, these are excep-
tions, and we can’t use exceptions to generalize what is the
norm for common stocks in the overall market.
Finance people will argue that all common stockholders do
have a “claim” to dividends, but this is not a legitimate claim.
There is a difference between something that can happen ver-
sus something that is legitimately likely to happen. In practice,
most public companies never pay dividends because they are
not obligated to. They can always make up an excuse for why
they can’t pay, and there are enough fine print and legal loop-
holes in their documents to let them get away with it. This is
why companies like Google, which is about as mature and
successful as a public company can get, have never paid divi-
dends.
A shareholder’s “claim” to dividends is meaningless be-
cause the normal practice is; public companies do not pay div-
idends, and shareholders receive nothing from the business. A
common stock in the open market is treated like a game of hot
potato among investors. It gets passed around from player to
player, no one wants to hold it as an end product, and every
player wants more money back than they put in. The compa-
nies that issued the stocks won’t contribute any money to the
game, but they’ll encourage the frenzy from the sidelines with
phrases like “We’re going to make our share value grow and

104
our shareholders happy!” This is why I refer to common stocks
as Ponzi assets.
There are extremely rare situations where a company pays
nonguaranteed dividends. But these unlikely events are un-
foreseeable and, for most companies, nonexistent. If it hap-
pened once, it might never happen again. And even if does
occur, the amount of money the firm gives back is minuscule
(like a small fraction of a penny on the dollar) compared to the
profits they take and hoard from investors. Even finance peo-
ple don’t consider those actions as sources of profit for stocks.
The legitimacy of an investment instrument needs to be
judged by how the instruments behave on a regular basis—not
by unscheduled events that may never occur. And what we can
clearly observe from day to day are investors cannibalizing
each other while the company they believe they own hoard
profits. There is no way to predict “if” or “when” a company
will pay dividends. But what is predictable, certain, and observ-
able is that if investors want to receive money for the stocks
they are holding, the only foreseeable way it can happen is if
they sell it to other investors and engage in the Ponzi process.

SOME FINANCE JUNKIES ARE THINKING: What about stock buy-

backs?! Public companies have returned hundreds of billions of
dollars to investors through buybacks!
The critical word that is missing from their vocabulary and
calculation is “dilution”: the additional shares public compa-
nies print before and after the buyback.
Contrary to what you may have heard from the media, aca-
demics, and even Wall Street critics like Bernie Sanders: stock
buybacks are not returns to investors. Most buybacks are com-
plete scams. On the surface, it might look like companies are
returning money to investors. But unlike dividends, which are

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 The Ponzi Factor

paid and done, stock buybacks can be rescinded when compa-

nies print more shares after the buyback. Such dilution can
come from initial public offerings by new companies, second-
ary offerings by existing companies, or employee stock com-
pensation. All three scenarios add new shares to the market
and extract money from investors.
I investigated 1,274 firms that engaged in buybacks be-
tween 2009 – 2016 and found 59% of them had increases in
their shares outstanding between 2004 – 2018. A legitimate
stock buyback should decrease a company’s total shares out-
standing, but 755 (59%) of the companies showed increases in
their shares outstanding around the years they supposedly
bought back stocks. This means most buyback companies
15

don’t return money to investors, but they actually take money

from investors when no one is looking.
The existence of false buybacks should not be a surprise. If
you think about it, public companies like Morgan Stanley and
AT&T have been buying back stocks for almost a century. If
their buybacks were legitimate, they should’ve acquired all
their shares by now and become private. The reason they are
still public is that they print more shares than they buy back.
The table below shows a few of the 755 companies that en-
gaged in false buybacks between 2009 – 2016.
Notable Dilutors
Ticker Name Shares2004 Shares2018 % Increase
AMZN AMAZON 403,354,000 488,969,000 21%
BAC BANK OF AMERICA 2,971,610,000 9,814,197,000 230%
C CITIGROUP 515,700,000 2,442,137,000 374%
JPM J P MORGAN CHASE 2,040,271,000 3,325,411,000 63%
T AT&T 5,226,000,000 7,278,000,000 39%
MS MORGAN STANLEY 1,084,700,000 1,720,155,000 59%
NFLX NETFLIX 346,738,000 436,085,000 26%
NVDA NVIDIA 497,724,000 610,000,000 23%
VZ VERIZON COMMUNICATIONS 2,770,000,000 4,132,015,000 49%
WFC WELLS FARGO 3,384,058,000 4,707,244,000 39%
Firms bought back stocks between 2009-2016. The Shares are split adjusted. www.ThePonziFactor.com

* The data for the buybacks will be available at www.ThePonziFac-

tor.com by August 2019.

106
 The most disturbing thing about the companies on that list
is that most of them also paid dividends. In fact, dividend com-
panies made up 539 of the 755 companies that engaged false
buybacks. It was an unexpected and puzzling discovery. At first,
I had problems interpreting the results. It’s easy to see why
Ponzi asset firms wouldn’t care about dilution because they
don’t have to pay dividends on diluted shares. However, the
data showed that 71% of the false buybacks belonged to divi-
dend firms, which shows that dividend firms printed diluted
shares without much concern for additional dividend liabilities.
If a company is simultaneously diluting while they pay divi-
dends, then the money they are receiving from selling diluted
shares to investors is also being used to pay dividends. The
company will not draw a straight line between the two actions,
but it’s clear that money is going into a pot that gets mixed and
paid out to other investors. That’s how capital gains work, but
it’s also true for many dividends as well. Like many of my dis-
coveries over the years, it was not something I wanted to ac-
cept when I first saw it, which is why I had a hard time
interpreting self-evident and obvious results.
The discovery opens new questions about the legitimacy of
dividends. Unfortunately, I will not get into the details about
false dividends (in this book) because it is still a research in pro-
gress. However, I am comfortable saying that based on what I
have seen, more than half of the dividends out there are being
paid with money that is tied to dilution.

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 The Ponzi Factor

(On a technical note, this also means that if investors are

reinvesting dividends with one of the false buyback companies,
they are essentially paying their own dividends—because they
are receiving dividends from the company, and then giving that
money back to the company in exchange for the diluted shares.
The company takes their money, stirs it in the pot, and redis-
tributes it as dividends!)
Extreme Dilutors
Ticker Name Shares2004 Shares2018 Diff
CCOI COGENT COMMUNICATIONS 711,400 46,472,000 6432%
CIDM CINEDIGM 647,300 35,143,000 5329%
CYTR CYTRX 803,778 33,638,000 4085%
PTX PERNIX THERAPEUTICS 394,250 14,506,000 3579%
Firms bought back stocks between 2009-2016. The Shares are split adjusted. www.ThePonziFactor.com

In addition to the notable dilutors, there were also some ex-

treme dilutors whose shares outstanding increased by as much
as 6,432%. These extreme cases were the result of standard di-
lution from printing shares, and multiple reverse-splits in ef-
forts to salvage the stock price. For example, the biotechnology
company CytRx Corp. (Ticker: CYTR) had about 804,000 split-
adjusted shares at $2/share in January 2004. By 2012, the price
dropped to $0.32/share, at which point CYTR did a reverse-split
and combined 12 shares into 1 to raise the price to
$3.81/share. By 2017, the price dropped to $0.36/share, at
which point they did another reverse-split to bring the price up
to $2.18/share. By December 2018, CYTR’s total shares out-
standing was 33.6 million, which is astronomically higher than
what they had in 2004. The actions of CYTR looks like a form of
price manipulation, but it’s also legal.
BUT the most important thing to keep in mind is that from
the perspectives of CNBC, Bloomberg, and many finance aca-
demics: CYTR is a biotech company with a history of buying
back stocks.

108
 Finance junkies like to rationalize false buybacks by saying,
“The dilution was probably from stock compensations, not sec-
ondary offerings.” Their assumptions are that secondary offer-
ings are bad because it shows the company ran out of money
and needed to sell diluted shares to investors, but employee
stock compensation is standard practice. But if they thought
about it a step deeper, they’d realize that stock compensation
is essentially the same thing. The only difference is, stocks are
printed for the employees, who will then sell it to investors.
The concept of employee stock compensation is a scam that
is closely related to buybacks. Some buybacks are specifically
designed to pay the board of directors and CEOs. The top dogs
at a company can decide how many shares they want to print
for themselves and use the company’s money to buy their
shares. A stock is worthless unless it can be converted into
cash, and sometimes that’s how it is converted. But that’s not
the real scam. That is as legitimate as stock compensation gets.
The real scam is in the perception that companies can com-
pensate their employees with stocks. The simple truth is, com-
panies don’t pay their employees with stocks. They print
stocks, and in most cases, investors who buy stocks are paying
those employees. Employees cannot technically get paid with
stocks because they don’t want stocks. They want money. The
reason they’ll take stocks is because they can get their money
through the Ponzi process. If stocks are a real form of compen-
sation, the CEOs and employees should hold those stocks for-
ever. They should not feel a need or be allowed to cash the
paper they print with investors and pension plans.
The issues with dilution also elucidate the fact that stocks
are not finite. Most companies are not prudent about issuing
diluted shares, but freely print as many as they need. The non-
finite nature of stocks is also why the idea of voting rights is a
complete joke, and why stocks cannot be considered or com-
pared to real assets with tangible value. A real asset must have

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 The Ponzi Factor

two critical elements. One, it must be finite with a limited num-

ber of owners (shares). Two, it must have a value that can be
realized without money from other investors—a value that is
not strictly dependent on the Ponzi Factor. These two elements
exist with real ownership. And they also exist with certain
stocks like Apple Inc., who pays dividends and buys back shares
without printing more…for now.
The simple truth is, people in finance don’t know how to
add and subtract. Quoting buybacks without dilution is as fool-
ish as saying “revenue = profit” without considering the ex-
pense. But that’s what published finance academics do on a
regular basis. There are plenty of research firms that track buy-
backs, but no one tracks dilution. Finance reporters who quote
other people's research are not trying to deceive their readers.
They report false information because they blindly trust the
words of notable finance professors like Aswath Damodaran
who teaches at NYU.
As the economist Robert D. Arnott once said, “Most of
these myths can be used to rationalize a higher, not a lower
[equity return]. No one seems to construct a myth or a fable to
explain why we should expect lower returns!”

THE REASON WHY COMMON STOCKS exist is because companies

can use them to raise money they’ll never have to pay back.
Firms have the option of using bonds or preferred stocks to
raise money as well, but those instruments would obligate the
firm to repay what they borrowed or share profits (guaranteed
dividends) with their investors. Those obligations do not legiti-
mately exist with common stocks. There might be some lan-
guage in the documents that make it sound like the company
will repay their common stock investors at some point, but
there’s nothing definitive, and firms can always find a way to
avoid paying their investors.

110
 It’s important to understand that stocks do not make a com-
pany more legitimate or credible. It just shows that the com-
pany needed money at some point. Every company that uses
common stocks to raise money will claim something optimistic,
like how they are already successful but need the additional
capital to expand. This might be true for some, but not all.
Some firms deliberately use stocks as a way to bail out their
early investors and avoid going bankrupt.
In contrast, successful companies that have money tend to
stay private. Private companies grow with the profits they take
in from normal business activities, rather than the money they
can raise from issuing Ponzi assets. This is why there are no
publicly traded stocks for companies like In-N-Out Burger,
Zuffa (also known as the UFC), and Gore & Associates (the firm
that makes advanced materials like Gore-Tex). These are just a
few examples of the many private companies that innovate
and grow organically with real profits generated from business
activities. Their investors’ profits (if they have investors) are
dependent on the success of the business, not the inflow of
cash from other investors.

THE IDEA THAT “a company is not directly responsible for its

shareholders’ profits” contradicts everything that is preached
by the world of finance so it might be hard to accept at first.
Another way to see this disconnect in responsibility is by asking
yourself the following question: Are you, the reader, right now,
responsible for Google’s investor profits?
Obviously, the answer is no. But why?
I’m sure you can come up with many reasons, but the most
relevant one is probably because you have no obligations or
plans to pay Google investors any money. Therefore, you can-
not be responsible.

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 The Ponzi Factor

Now, the scary thing is, Google feels the same way because
Google has no obligations or plans to pay their investors any
money either. Therefore, Google cannot be responsible for
their shareholders’ profits.
I doubt Google executives would say this on TV in the clear,
concise way that I have expressed it, but they do admit this in
writing in documents that are often ignored by the public and
media. Here is a statement from Google’s latest (2016) Securi-
ties Exchange Commission (SEC) 10-K filing:
“We have never declared or paid any cash dividends on
our common stock. We intend to retain any future
earnings and do not expect to pay any dividends in the
foreseeable future.”
The finance industry sells the idea that owning stocks is like
owning a piece of a company and makes it sound like the share-
holders’ profits are directly dependent on the success of the
business. But companies cannot be directly responsible for
their shareholders’ profits because profits from capital gains do
not come from the underlying business.
Sometimes I ask people, “How much money do you think
you would have made if you owned Google stocks from 2007–
2011, during a four-year period where the company reported
over $28 billion in profits?”
Some say a lot; some say a little. But the answer is nothing.
The price of Google
stocks in 2007 was the
same as it was in 2011.
Google doesn’t pay div-
idends, so shareholders
receive nothing from
their business opera-
tions. Google investors’

112
profits are directly dependent on cash contributions from other
investors and the Ponzi process.
Google’s chart does shows some peaks and valleys during
that four-year period, so it was possible to make or lose money
during that time frame. But any profit would be the result of
luck, and it doesn’t change the fact that Google made over $28
billion in profit during this period and didn’t share any of it with
their investors.
Again, whether or not investors can make money in a Ponzi
scheme is never in question; the issue is where those profits
come from.
Finance professionals try to undermine the existence of this
Google scenario because it contradicts what they preach about
stocks and ownership. I’ve heard a wide range of explanations
rationalizing why this could’ve happened. But the problem is it
happened—and not only did it happen, but it happens often.
Time Share Price Capital
Company Net Income Dividends
Period Begin, End Period Gains
B. Hathaway (BRK-A) 2008–2012 $49,457,000,000 $0.00 $134,200 $134,200 $0.00
Google (GOOG) 2007–2011 $28,656,500,000 $0.00 $542 $542 $0.00
Apple (AAPL) 2007–2009 $14,354,000,000 $0.00 $186 $186 $0.00
Yahoo (YHOO) 2009–2012 $5,421,570,000 $0.00 $16 $16 $0.00
Regeneron (REGN) 2014–2016 $1,664,096,000 $0.00 $336 $336 $0.00
Chipotle (CMG) 2014–2015 $911,983,000 $0.00 $494 $494 $0.00
Facebook (FB) 2012–2013 $776,500,000 $0.00 $26 $26 $0.00
Netflix (NFLX) 2011–2013 $205,150,000 $0.00 $287 $287 $0.00
The net income data are from the United States Securities and Exchange Commission's Form 10-K filings.
The details for the specific months for the time period quoted are available in the Endnotes.

As for their positions on dividends—sharing business profits

with their shareholders—here’s what some of them said in
their SEC 10-K filings.
Berkshire Hathaway: Berkshire has not declared a cash div-
idend since 1967.
Facebook: We have never declared or paid cash dividends on
our capital stock…and we do not expect to declare or pay any
dividends in the foreseeable future.

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 The Ponzi Factor

Netflix: We have not declared or paid any cash dividends, and

we have no present intention of paying any cash dividends in
the foreseeable future.
Google: We have never declared or paid any cash dividends
on our common stock. We intend to retain any future earnings
and do not expect to pay any dividends in the foreseeable fu-
ture.
These Google scenarios, when shareholders make nothing
while the companies they think they own report amazing prof-
its, are scattered throughout the market. It took me less than
forty minutes to find these examples. I picked somewhat neu-
tral time frames to show how investors made nothing while the
companies made millions or billions; if I wanted to be more se-
lective, I could choose a time frame where shareholders
would’ve lost money while the company they owned made mil-
lions or billions.
The companies in this example are also some of the best
companies in the stock market, which is why they have recog-
nizable names (most are on the S&P 500) The majority of com-
panies listed on the market are smaller firms that are far less
stable, less profitable, and with names, you will not recognize.
Finance professionals have come up with a lot of excuses
for why these Google scenarios exist, all of which are different,
hypothetical, and unprovable—indirect factors. Some of the
popular ones are: The price of a stock is also dependent on
other economic and industry factors; the market trades on fu-
ture, not current, information; and the stock was undervalued
at time-zero. And of course, the dumbest excuse, which is also
the most popular: Well, investors could’ve made money if they
held the stock for a little longer. Yes, and I could’ve won the
lottery last week if I’d picked different numbers.
The excuses for why these Google scenarios can happen are
only limited by the imagination. I admit that some of the

114
excuses could even have some degree of validity, but so does
the single simplest explanation of all, which is that stock prices
are not directly dependent to the performance of the underly-
ing company, but are directly connected to how much cash
new investors contribute to the system.
Again, these Google scenarios are not meant to show why
people cannot make money with stocks—because they can.
Even Madoff investors made money, and that was a well-
known scam. These scenarios show how the company’s perfor-
mance is not directly responsible for its investors’ profits, and
there is no legitimate connection between common stocks and
the underlying company.
The effects of the Ponzi Factor doesn’t have directionality,
so given the existence of the Google scenario, there should also
exist an inverse to the Google scenario as well—a situation
where investors could make money while the company they
owned lost billions.
A perfect example of an inverse to the Google scenario is
the Tesla scenario from the Introduction. The stock for Tesla
Motors went from $20 in 2010 to over $380 in 2018, during a
period when the company reported a net loss of $6.1 billion.
Unlike the Google scenario where the company made billions,
but its investors walked away with nothing, Tesla’s investors
could’ve gotten rich while their company lost billions. Both
these scenarios are possible because profits from stocks do not
come from the underlying companies, but at the expense of
other investors. And like the Google scenario, these are never
one-off situations. If you find one, you'll find many.
Share Price Shares Outstanding
Company Time Period Net LOSS Begin, End Period (millions)
Tesla Motors (TSLA) 2010 - 2018 ($6,138,000,000) $20 → $380 95m → 173m
Tableau (DATA) 2013 - 2018 ($486,100,000) $51 → $125 8m → 72m
Wayfair (W) 2014 - 2018 ($1,207,400,000) $25 → $147 11m → 62m
ServiceNow (NOW) 2012 - 2018 ($1,140,700,000) $25 → $178 120m → 179m
Palo Alto Networks (PANW) 2012 - 2018 ($1,060,000,000) $57 → $215 66m → 95m
Intercept Pharma (ICPT) 2012 - 2018 ($1,733,500,000) $18 → $101 16m → 30m
Bluebird Bio (BLUE) 2013 - 2018 ($1,438,400,000) $25 → $122 24m → 55m

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 The Ponzi Factor

Here’s another interesting question, which is specific to the

Tesla scenario: How does Tesla Motors stay in business? Their
stock can trade around $380, but that’s not real money. That’s
an imaginary value generated from investors who are now
feeding off each other. Tesla’s rent and utility bills, on the other
hand, are very real and need to be paid with real cash. So how
do they keep their lights on when they’re losing billions? Aren’t
they going to run out of money at some point?
The answer is yes, Tesla will run out of money at some
point, and when they do, they will just print more stock, which
is why their shares outstanding increased from 95 million in
2011 to 179 million by June 2019.
Some investors can make money while their company loses
billions, and some investors can make nothing while their com-
pany is making billions. Both the Google and Tesla scenarios
are possible because investors’ profits are not directly depend-
ent on performance or growth of the underlying companies,
but directly dependent on cash from other investors.
In academic jargon: The Google and Tesla scenarios are
counterexamples that disprove the conjecture that owning
stock is like owning a piece of a company. It is evidence that
shows how stock prices are not a reflection of future earnings
or growth. The logic is simple, and the mechanics are irrefuta-
ble. The stock market is a pay-as-you-go system that is
supported by the cash inflows from new investors, and owning
stock is nothing like owning a piece of a company.
Like Dr. Emanuel Derman said in his book My Life as a
Quant, “When you own stock, you are guaranteed nothing!”

THE IDEA OF OWNERSHIP IS ALSO KNOWN AS EQUITY, and it is funda-

mental to the legitimacy of stocks as an investment instru-
ment. What I’ve shown thus far brings severe doubt to the
association between stocks and equity. But, why does the

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world of finance refer to stocks as equity instruments in the
first place? How did the word “equity” even get associated with
stocks?
Like other fundamental ideas in finance, the equity associa-
tion has never been researched. From what I have seen, it’s an
assumption that was passed down by word of mouth and in
textbooks but never questioned or investigated.
By definition, equity implies the existence of ownership in-
terest. Stocks are called equity instruments because they are
supposed to represent an ownership interest in the company.
But based on evidence like the Tesla and Google scenarios, and
the existence of Google’s non-voting Class C shares, the as-
sumption that stocks represent real ownership interest is
laughable. It is tempting to assume that stocks have some real
intrinsic value because they are associated with the word “eq-
uity,” but if you look at how the first and early stocks behaved,
and why stocks were initially created, it will be clear that the
word “equity” does not apply to the common stocks being
issued today.
Unlike the other ideas I’ve presented, which for the most
part were derived from observation and logic, what I’m about
to share is grounded in history. I am pointing this out because
the world of finance has access to the same historical material,
but finance classes do not teach history, and most finance peo-
ple are completely unaware of the things I’m about to share.
So, an interesting question to keep in the back of your mind is,
why does the world of finance, especially people like Warren
Buffet, ignore history?
Let’s start from the beginning and try to understand the
origin of stocks and how stocks came into existence. I think two
aspects of human nature that have not changed over time are
that; people are protective of their money, and people are usu-
ally suspicious of new things. So how did stocks gain traction
amongst the first investors? What was it that made the first

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 The Ponzi Factor

investors want to take a chance with these new investment in-

struments?
As I mentioned in the Introduction, let’s look at two invest-
ment proposals and think about how early investors would’ve
responded:
Proposal One:
A business owner says to investors, “If you invest in my
business, I’ll give you a share of the company, and if the
business makes money, you’ll receive a share of the
profits too. The share is also transferable so you can sell
it to another investor. If you’re lucky, you might even get
more than you paid.”
Proposal Two:
A business owner says to investors, “If you invest in my
business, I’ll give you a note that says you own a share
of the company. However, you won’t receive any money
from the business. The only guaranteed way you can
make money is by selling that note to someone else.
Maybe you’ll get lucky and get more than you paid!”
Again, which scenario do you think early investors would
have taken into consideration, and which do you think they
would have ignored? Do you think the early investors would’ve
handed their money over in exchange for a note that didn’t
promise any form of repayment?
According to historians, the first stocks came into existence
in the early 1600s in Europe, and the first joint-stock compa-
nies were in the shipping and trade business. The fact that the
first stocks were related to the shipping industry was not a
coincidence. If you think about it, shipping was an expensive
and risky business that also had very low hands-on work in-
volvement by owners. The owners secured the financing, but
they didn’t have to go on the long voyages themselves. The his-

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torian Ranald C. Michie described it as a situation where “Own-
ership and operation were divorced.” It was an ideal situation
for silent investors—people who want to own a business with-
out getting their hands dirty. And naturally, in return, investors
also expected to receive a portion of the business profits.
Back then, people didn’t get involved in something that
didn’t pay dividends. It is documented that companies like the
Dutch East India Company—which was also believed to be the
first joint-stock company to issue stocks—and the South Seas
Company paid annual dividends that yielded between 12%–
62%. This means if the stock was $100 a share, the investor
would receive anywhere between $12–$62 for every share he
or she owned every year. This shows that the first public com-
panies didn’t just pay dividends, but they paid reasonable &
regular dividends. Those companies didn’t pay something un-
scheduled and trivial, they shared a reasonable amount of
profits with their investors and paid them on a regular basis. It
shows how vital dividends were for the investors. And, it also
shows how much the underlying companies respected their in-
vestors’ participation, ownership, and profit-sharing agree-
ment.
The practice of paying dividends was not unique to early Eu-
ropean stocks; it was also the norm for American companies
until the twentieth century. According to Dr. Bryan Taylor, from
Global Financial Data Inc., “virtually all” stock returns during
the 1800s came from dividends, not capital gains. Dr. Taylor
also says that “the behavior of financial markets in the 1800s,
because of the returns to investors, was fundamentally differ-
ent before and after 1914,” and mentions that one reason why
dividends were important was that most people invested in
bonds at the time and thought stocks were risky. Dividends
weren’t just important to the early European investors; they
were an intrinsic part of early US stocks as well.

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 The Ponzi Factor

As I mentioned earlier, there are two ways investors can

make money with stocks: dividends and capital gains. These
two profiteering methods are fundamentally different. Profits
from dividends come from the business, whereas profits from
capital gains come from other investors. This is a material dif-
ference that regulators and people in finance ignore, but it is
literally the difference between legitimate investment profits
and Ponzi profits, and the difference between a real equity in-
strument and a gambling instrument.
If you eliminate dividends from stocks, the stock becomes a
fundamentally different financial instrument. History clearly
shows that stocks were designed to pay dividends. But today,
the common stocks that are being sold to investors behave
nothing like the way stocks are supposed to function.
The early stocks before the 1900s were indeed real equity
instruments because they paid dividends. They had a legiti-
mate connection to the business because investors’ profits
came from the business. The early stocks were not just Ponzi
assets that investors traded; the money investors made was di-
rectly dependent on the success of the underlying businesses.
There’s even evidence that says the very first stock market
crash, which took place in London in 1720, was triggered after
the South Seas Company missed its dividend payment.
Sure, investors at the time also made money speculating on
capital gains; however, their profit was not entirely dependent
on the Ponzi process like it is now.
Dividends were not just a source of profit for investors—
they were not just an ornamental accessory when the idea of
the stock was first conceived. Dividends were an essential com-
ponent that legitimized stocks as real equity instruments in a
company. It established a connection between stocks and the
underlying businesses through a profit-sharing agreement. His-
tory shows that dividends made stocks legitimate investment
instruments. Dividends were the primary source of profits for

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investors, and the only reason the first investors invested in
stocks. The presence of dividends in an investment is also in-
line with what we expect from basic intuition and logic: If peo-
ple invest in a company, then they should expect to receive a
share of the profits from the business they own. Frankly, it
would be a little disturbing if the investors didn’t expect it.
Stocks are transferable securities, so there’s always the pos-
sibility of making money through capital gains. But capital gains
were meant to be a secondary source of profit for the invest-
ment—a side bet from selling legitimate equity instruments
that paid dividends. The possibility of earning capital gains
does not bridge a connection between the stock and the un-
derlying company. It does not legitimize stocks as real equity
instruments because it does not establish a genuine invest-
ment and profit-sharing relationship between the shareholders
and the business.
The legitimacy of stocks as an equity instrument is depend-
ent on dividends, not capital gains. There is nothing in history
that shows stocks were designed around the idea of capital
gains, nor is it logical to think that an owner of a company is
not entitled to any profits from the underlying business. Inves-
tors back then weren’t stupid. They wouldn’t have gambled on
the new stock investment instrument if there was no profit
sharing agreement or legitimate promise of repayment from
the underlying company. Investors would have invested in gov-
ernment bonds, which they were familiar with and the idea of
stocks would have been dead on arrival.
Stocks came into existence because of dividends, and stocks
without dividends are nothing more than Ponzi assets.
The common stocks that dominate the stock market today
are not equity instruments—they are a mutated form of what
legitimate equity instruments once were. When people refer
to stocks as equity instruments now, it is nothing more than a
false, artificial label. The same people who think common

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stocks are legitimate equity instruments are also the same peo-
ple who know nothing about the real history of stocks. They are
unaware of the fundamental differences between the early
stocks when the idea of the joint-stock company was first
conceived, and the common stocks that dominate the market
now. The early stocks were legitimate equity instruments be-
cause they paid dividends, and the common stocks today are
Ponzi assets because they don’t.

THE ABSENCE OF DIVIDENDS doesn’t just affect the legitimacy of

stocks and stock investors. It probably has the worst impact on
low-income people who struggle to pay rent. The simple truth
is, when companies hoard profits and end up with too much
money to play with, they start wreaking havoc on other areas
of the economy.
An interesting thing about the nineteenth century, when
firms paid dividends, was that there was practically no infla-
tion. In contrast, as dividends disappeared, and Ponzi profits
became dominant in the twentieth century, we started to ex-
perience the worst inflation in recorded human history.
Inflation is a problem that affects everyone, and it is espe-
cially noticeable in sectors like the real estate market, which is
extremely sensitive to supply and demand. The San Francisco
Bay Area has been dealing with an affordable housing crisis
with no solution in sight. According to the Bureau of Labor Sta-
tistics, rent prices increased over 33% between 2014–2019.
There are students, and young professionals in the city who
have to share a bedroom with one—or sometimes two—other
people. And employees who make $100,000 a year in Moun-
tain View, California might still consider living in a van to save
money on rent. The local government is exploring rent control
and eviction restrictions as an emergency measure, but it’s not
a real solution and the government doesn’t understand the

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real problem. What the city officials don’t realize is that the
housing inflation plaguing their city is tied to the distribution of
Ponzi assets.
A big contributor to the San Francisco rent inflation crises is
Google, and companies like Google, and their participation in
the real estate market. Google makes a lot of money, and they
don’t share it with their investors. As a result, the company has
more money than they know what to do with, so they start in-
vesting in real estate—a market that is completely
disconnected from their core business. This, in turn, drives up
real estate prices, inflates rent, and drastically affects ordinary
people who are completely unassociated with the company.
One way Google affects inflation is with direct participation
in the real estate market—buying up land and properties. An-
other way is indirect participation when they pay their
employees astronomical salaries and their people drive up
rent, property, and even food prices in the areas they touch.
Usually, there’s nothing wrong with paying people a lot of
money for good work or buying real estate if they can afford it.
But for public companies that hoard profits, which should go to
investors, that money is associated with the distribution of
Ponzi assets—something that is artificial and dirty.
Google is aware of the damage they are doing and goes to
great lengths to hide it. There is no question that they have a
MASSIVE real estate department, and for all we know, it might
even rival their technology departments. However, you won’t
find much if you search for it online. There might be a job post-
ing that slipped through the cracks, but you won’t find anything
substantial.
The people in Google’s real estate department used to have
Linkedin profiles in 2013, but there’s no trace of them now. I
remember coming across a guy with the title “Director of
Google Real Estate” (or something) and thinking: Now, that’s a
man I want to harass later. But when I searched for his profile

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recently, I couldn’t find anything on him or his entire depart-

ment. They were completely expunged from Linkedin and most
of the internet. It’s not easy hiding anything online, but the
presence of Google’s massive real estate department is practi-
cally non-existent. The only way that can happen is if there’s an
active effort to hide it. And the only reason Google would want
to hide it is that they know the effects of their actions. But,
don’t take my word for it. Go online and search for “Google’s
real estate department” and see what you can find.
Of course, it’s not all bad. Google develops the land they
own, so there are positive effects on those areas. But I’m pretty
sure Google investors did not buy Google stocks because they
want them to play with real estate. They invested in the com-
pany for their technology, and their shareholders probably
want to receive dividends rather than ABSOLUTELY NOTHING
from the company.
The problem with a lack of dividends isn’t just limited to the
investors who invest in stocks. It is the source of many other
economic issues as well. The actions of Google and companies
like Google are not the only things driving up inflation, creating
wage inequality, and getting people kicked out of their homes,
but their actions do play a significant role.

ANOTHER REASON WHY finance people associate stocks with eq-

uity is because of voting rights. History clearly shows that the
presence of dividends was far more important than voting. In
fact, historians who wrote about the early stocks said plenty of
things about dividends but didn’t mention anything about vot-
ing. I think it is entirely possible that the early stocks didn’t
even have voting rights, or that the corporate structure was
not democratic. Again, the reason why the earlier investors
bought stocks was because of dividends and the possibility of

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making money, not because they wanted to go on voyages
across oceans or experience the joy of running a company.
There are also several other issues with the argument for
associating stocks with equity through voting. First, stocks like
Google’s Class C shares don’t even have voting rights, so the
argument doesn’t even apply. However, most finance profes-
sionals are unaware of the existence of non-voting Class C
shares, which is why they will still use voting as a point for
debate.
Second, from a quantitative perspective, voting has close to
zero value. This is evident in the narrow gap between the prices
of Google’s non-voting C shares and voting A shares. The last
time I checked (July 2019), the price of a Google C share was
$1,139/share, and their A share was $1,140.32—a difference
of $1.32. This means investors who are buying and selling
Google shares without any knowledge of the Ponzi process—
investors who fully believe in the stock market system—be-
lieve the right to vote is only worth $1.32 for a stock that is
trading around $1,140. In other words, the right to vote is just
worth a 0.12% premium.
And lastly, in my candid opinion, which is also shared by
honest investment bankers who understand how easy it is to
manipulate votes in a corporate structure…when it comes to
stocks, voting is bullshit. It’s an ornamental detail that makes
stocks sound legitimate so firms can avoid paying dividends.
Finance is different from politics. Voting sounds important,
but in practice, it has little value for financial instruments with
complex rules that can change at any given moment. Most in-
vestors never go to shareholder meetings or vote on anything.
They don’t read the thick packets they get in the mail. The only
thing they care about is how much their stock is trading at.
Even if there’s an ideal situation where every investor reads
their mail, goes to meetings, and votes, there are a multitude

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of things a company can do to abate their voices—like issuing

more stocks to dilute the existing shares.
If you asked any shareholder whether they want to receive
reasonable & regular dividends like what the early stocks paid,
or whether they want to vote, I’m almost 100% certain that
most of them would say they want to receive dividends. But
I’m also certain they are not receiving any dividends from the
common stocks they’re holding. But why? Can’t they just go to
the next meeting and vote to receive dividends? If voting was
so useful and easy to exercise, then common stock investors
should be receiving dividends. But they are not! And it’s be-
cause in practice, it is difficult to evoke corporate change, and
voting is bullshit.
A real-world example is the story of how Google’s non-vot-
ing Class C shares came into existence. Google didn’t always
have non-voting C shares. At one point all their stocks were
voting Class A and B shares, but they figured out a way to dis-
tribute C shares to their investors through a contentious 2-for-
1 stock split in 2014. In a standard 2-for-1 split, one share of
stock becomes two identical shares at half the value, so one
$10 Class A share would become two Class A shares at $5 each.
What Google did was different. They split their Class A shares,
but their shareholders didn’t end up with two Class A shares.
Instead, they ended up with one Class A share and one Class C
share with no voting rights. So, one Class A share, which was
trading around $1,200 at the time, turned into one A share at
$600, and one C share at $600.
A lot of finance people will even admit that there is never a
good reason for why any company would split their stock be-
cause it is an artificial form of price manipulation (in Google’s
case, also class manipulation). The company typically offers
some excuse for the action, but there’s usually a hidden
agenda that they will not disclose because they do not have to.
Google tried to make the split sound nice by calling the C shares

126
they hacked out of their investors’ Class A shares a dividend,
even though it negatively affected their shareholders. I
personally think Google split their stocks because the price had
been hitting a $1,200 ceiling and it’s easier to Ponzi up the price
of a $600 share back to $1,200 than to increase $1,200 to
$2,400. But the point is, if Google’s shareholders had a real
voice and votes that mattered, I’m pretty sure they would have
requested reasonable & regular cash dividends from the
billions in profits Google was reporting, rather than letting
Larry and Sergey (Google’s founders) stick them with non-
voting C shares that were carved out of their A shares.
The entire voting argument is really just an excuse for the
world of finance to justify not paying dividends. Yes, a voting A
share does give investors more voice than a non-voting C share,
but a Class C share is basically a pure Ponzi asset—something
that should not even be legal. Just because shareholders can
vote or go to annual meetings doesn’t mean their voices will
be heard or they’ll get what they want. Even if they sue their
own company, there is no guarantee anything positive will re-
sult from it.
Finance people have said to me, “But Tan, there are great
success stories where shareholders voted out bad leadership
and turned a company around.”
Yes, I agree that such stories might exist. However, the
problem with such stories, like all success stories in finance, is
that they don’t acknowledge how many unsuccessful stories
there are—times when shareholders pressed for action and
ended up with nothing more than stress and legal bills.
The shareholders’ rights argument comes up a lot in my de-
bates. Passionate finance junkies always reach a point where
they can’t explain how shareholders can make money without
cash from new investors, which is an observable fact, and they
start making up hypothetical arguments like: Shareholders

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have rights! They own the company so they can change things,
or even sell the entire company if they wanted to!
Hypothetically speaking, shareholders can get organized,
put together evidence, hire lawyers, and take action against
the company. But it is almost never practical or successful in
practice. Debates that are dependent on what can be
accomplished through lawsuits and organized actions are un-
foreseeable events with uncertain outcomes. Conversations
about shareholders’ rights are a waste of time in the search for
truth because it is a hypothetical debate about what share-
holders might do, and also a speculation on their probability of
success. It does nothing to defend the company’s responsibili-
ties concerning the stocks they issue nor explain why stocks
without dividends are not Ponzi assets. If anyone has to hire
lawyers to fight for what they think they are entitled to, then
they’ve already lost.
Can shareholders take organized action and try to make
their company pay dividends?
Yes.
Are they going to be successful?
Probably not, but then again, who knows?
Can anyone get into a long-winded debate about hypothet-
ical scenarios of what can be accomplished when shareholders
sue their companies?
Absolutely.
Will anyone know the results of those hypothetical scenar-
ios through the debate?
Absolutely not.
Every company is different, and there are plenty of loop-
holes in their documents. The only thing that’s certain is that
nothing is ever certain when lawyers are involved.

128
 If someone in finance wants to defend the existence of com-
mon stocks and explain why they are not Ponzi assets, they
need to make their argument concerning observable condi-
tions that are foreseeable, certain, and absent of hypothetical
scenarios involving organized actions.
During the natural day-to-day course of events in the stock
market, what we can clearly observe is that companies like
Google do not share business profits with their investors, and
the only practical way their investors can make money is
through the Ponzi process.
If an asset’s price appreciation is dependent on the Ponzi
process, then that scenario is a Ponzi scenario and that asset is
a Ponzi asset. It doesn’t matter if the CEOs and directors are
getting paid with Ponzi assets or even if a company is hoarding
their own stock. It doesn’t matter if people made money his-
torically. Heck, it doesn’t even matter if everyone prior to the
current shareholders made money. The only thing that matters
is whether or not the current shareholders will get the cash
they feel entitled to, from the stocks they are holding, in the
absence of cash from new investors.
Real returns must be narrowly defined as real money that
has been returned to investors. It cannot be an idea of money
that can only be realized under certain conditions.
If we define a Ponzi scheme as A system where current in-
vestors’ profits are dependent on cash from new investors, then
the stock market is a Ponzi scheme.
The Securities and Exchange Commission defines a Ponzi
scheme as:
“An investment fraud that involves the payment of pur-
ported returns to existing investors from funds
contributed by new investors.”
Remove the opinion word “fraud” from the definition, and
what do you have?

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The stock market.

130
 CHAPTER 7

Two Paths

“A new scientific truth does not triumph by convincing its

opponents and making them see the light, but rather
because its opponents eventually die, and a new genera-
tion grows up that is familiar with it.”
—Max Planck

SO, WHAT DOES ALL THIS MEAN IN THE END? If the stock market is
a giant Ponzi scheme, how much harm is it actually doing? The
economy seems to be growing, people have jobs, and that’s
what really matters, right?
Things might seem nice at the moment, but it’s likely that
we’ve gotten used to living with the bad. Issues like housing
inflation and income inequality are manageable for now, but
that can change.
 The Ponzi Factor

There are two ways to deal with the information that has
been revealed.
The FIRST way is to rationalize the existence of the Ponzi
Factor and look on the bright side.
From an investment perspective, Ponzi structures are bad
for investors, but it’s a wonderful system for firms that need to
raise capital. Companies can borrow money that doesn’t have
to be repaid. Having less liability to the investor gives firms
more freedom to grow the business faster. Sometimes that
leads to innovations that can help society in other nonmone-
tary ways. The current system might be ripping off investors,
but there are some positive outcomes as well.
We don’t know if the economic positives under the current
system outweigh the negatives. But for a moment, let’s assume
a hypothetical situation where the current system does yield a
positive-sum economic situation. This means we believe that
both the monetary and non-monetary positives, like technical
innovations and job creation, outweigh the negatives, like in-
flation and investor losses.
If that is true, and the stock market is producing an eco-
nomic benefit, then it would make sense to explore more ways
to develop Ponzi systems, and find more ways to implement
the Ponzi structure in other areas of the economy. This is not a
complete joke. Given how companies like Google and Tesla
have made innovations over the years under the current sys-
tem, there is some evidence and room to make an argument
for why the Ponzi Factor has a place in the economy.
The SECOND way to deal with reality is to acknowledge the
stock market as a negative-sum gamble, and look for ways to
reform the system—or dismantle it.
An important thing to keep in mind about this second
approach is that there is absolutely no reason to assume all of
the innovations and good things we’ve experienced under the

132
current system will simply disappear if public companies are
held responsible to their investors. There are plenty of
legitimate ways to raise capital and plenty of businesses in our
economy that grow and innovate without issuing common
stocks. Google has plenty of money to share with their
investors, but instead, they’re using it to purchase beachfront
real estate. It is wrong to think progress and innovations will
come to a halt without the existence of Ponzi assets.
Regulating the current system properly is easy. All we have
to do is apply some common sense:
Dividends: If companies are profitable, they have to
share the profits with their investors. If a company is not
profitable and cannot pay dividends, then their stocks
cannot be transferred and traded for Ponzi profits.
Vocabulary: Firms cannot be allowed to use the word
“invest” when they are selling unproven “gambles.”
Clawbacks: Finance professionals cannot be allowed to
keep the money they never earned. If they lose money
for their clients, they have to give back all the money
they took in the process: fees and commissions. From
the CEOs to the analysts, everyone has to give back eve-
rything they took.
The reason these obvious ideas haven’t been implemented
is because they will obliterate a majority of Wall Street activi-
ties and jobs. I think the regulators know what is right, but the
people in charge care more about avoiding an industry Arma-
geddon on their watch than protecting investors from un-
proven gambles.
The regulators might not act, but there is something inves-
tors can do to bring back dividends.
If investors want to encourage companies to pay dividends,
all they need to do is stop buying stocks. That’s right. Just stop

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buying stocks. If you have extra money, invest it in real estate,

bonds, Treasury bills, time deposits, or even hide it under the
mattress. Put it anywhere other than in the Ponzi assets that
make up the stock market. If you make regular contributions to
a 401(k), IRA, or pension plan on a regular basis, tell the people
in charge to distribute your money into anything but stocks and
stock-related instruments, which include many mutual funds.
The reason why companies can get away with not paying
dividends is because they can. But investors are the ones who
contribute money into the system, and therefore investors also
have the power to control the system. Just stop buying stocks.
Stop playing with Ponzi assets. Stop making money off each
other, and start looking to the companies for the profits.
Boycotting stocks can bring back dividends for a while, but
it’s not a permanent solution. History shows that stocks were
legitimate equity instruments with dividends until the early
1900s, but that didn’t stop speculation and bubbles in the
1700s and 1800s. Ultimately, those legitimate equity instru-
ments evolved into the Ponzi assets they are today. Even if
companies do start paying dividends, over time finance profes-
sionals will blind people with capital gains and the industry will
shift the focus back to Ponzi profits.
The idea of classifying stocks as gambling instruments will
have a broader and more enduring effect on reforming the in-
dustry. I believe it is also something that is inevitable, but it’s
not a permanent solution either. In the early 1700s in London,
stock speculation was more or less treated as a form of gam-
bling. Parliament acts like the Bubble Act of 1720, and the Ber-
nard Act of 1734, did discourage speculation until the late
1700s. However, “stockjobbers”—the early finance profession-
als—eventually figured out ways around the system, and over
time they overcame the system. This piece of history shows
that reform, even if it is drastic, can still be temporary. Greed
and gambling have ways of sneaking back into the economy.

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 The clawback idea is meant to place the finance industry
under the same logical principle that applies to other indus-
tries, by not rewarding incompetence and failure. If you hire a
plumber to fix the sink, and he ends up destroying your entire
kitchen, chances are you won’t owe the plumber any money,
and he will be liable for the damages. Without clawbacks, fi-
nance professionals can destroy a lot of kitchens, get paid, get
new clients and destroy more kitchens. The former CEO of Bear
Sterns, Alan Schwartz, received a total compensation of $37.3
million in 2006 and he was listed as one of Fortune’s 25 High-
est-paid men. After his firm collapsed in 2008, Alan admitted
to a Financial Crisis Inquiry Commission, “I believe that we’ve
never believed we had the ability to predict the next market
movement.” Alan is now a managing partner at the financial
services firm Guggenheim Partners.
Some people will say, “But clawbacks can seriously deter
people from working in the finance industry.” And yes, that is
exactly what clawbacks are meant to do. It is a rule that is de-
signed to deter people from stockjobbing and gambling away
other people’s money.
If a service cannot provide something of value to the con-
sumer, then that service has no reason to exist. I have nothing
against gambling or casinos, because casinos provide enter-
tainment value for people who want to gamble. What I have a
serious problem with is when people sell unproven gambles as
investments because then it becomes a scam. Gambling is not
a fraudulent activity, it’s just a risky one. Gambling is only
fraudulent when it is sold as an investment, and this type of
sales is the backbone of the investment finance industry.
Dividends, gambling, and clawbacks are ideas that can help
reform the current system. However, these ideas aren’t new,
and will probably only have a temporary effect even if they are
implemented. Of course, these ideas are worth trying again,
especially now with the awareness of the universal error. But,

135
 The Ponzi Factor

I’m more in favor of abolishing the stock market system alto-

gether.
I have spent years thinking of meaningful ways to fix the
system, and I’ve lost count of how many times I’ve rewritten
this final chapter. My conclusion, which may not be the correct
or best conclusion, is that a meaningful way to reform the sys-
tem might not exist.
On one hand, there’s nothing wrong with the idea of break-
ing up a company into smaller shares of equity, and I don’t
think the idea of a joint-stock company will ever disappear.
However, history clearly shows us that the existence of this
simple and pure idea, which I still believe in, will breed people
who will devise ways to game the system for their own benefit,
and in the process, diminish the economic benefits the system
is designed to produce. Even if Wall Street goes through major
reforms, with enough time, people will find loopholes and ways
to corrupt it.
On the other hand, it is clear that no one can pull $36 trillion
out of their ass to bail out the current investors, and this bomb
is only going to get bigger over time.
The stock market is built on fallacies and imagination. There
is nothing logical or sustainable about it, and I can’t see the
current system surviving another millennium. I do not see all
the details on the path to its destruction, but I believe it will
implode and vanish at some point in the future.
I did not write this book to criticize the investment system.
I wrote it to show how the features of the stock market meet
the definition of a Ponzi scheme, and make a case for why the
biggest scam in the history of our species should be disman-
tled.
An economy without a stock market might sound inconceiv-
able right now, but I think it’s a reality we will have to face
sooner or later. One way or another, investors will realize the

136
stocks they are holding will never yield its cash equivalent. De-
spite how tranquil and nice things seem right now—and possi-
bly for years or even decades to come—the messy business of
dealing with the trillions in imaginary value will reveal itself. If
Ponzi schemes are destined to collapse, then so will the market
systems that share the same mechanics and logic.
One thing even finance people will agree with is that it’s not
a matter of “if” the stock market will crash again but “when.” I
don’t know when the next crash will happen or what the ex-
perts will blame it on, but I’m certain the crashes we’ve wit-
nessed thus far are just symptoms of a disease—
foreshadowing something far more destructive.
At some point there will be one magnificent crash that will
end the stock market permanently. The market will not be able
to bounce back from it because unlike the dot-com crash or the
housing bubble—which were blamed on indirect issues like fail-
ing businesses and bad loans—this last unrecoverable crash
will be the result of something direct and fundamental: inves-
tors pulling their money out of the system as they realize the
reality of the Ponzi Factor, and how their wealth is tied to the
massive Ponzi scheme we now call the stock market. Little by
little, the reality of the Ponzi Factor will sink in, and over time,
it will become impossible to ignore.
This final crash will change the face of our economic and
financial system. Its destruction is unimaginable, but we will
evolve from it.

I BELIEVE HUMANS ARE CAPABLE OF MAKING DRASTIC CHANGES to bet-

ter our environment, and we can evolve from centuries of mis-
guidance.

137
 The Ponzi Factor

A while back, I told one of my old economics professors that

I thought the investment system was a massive scam. His re-
sponse was, “Tan, you might not like it, but you’ve got to deal
with it because it’s everywhere!”
He was right. The zero-sum scam I’ve described is every-
where. But it will change because it has to change.
It wasn’t too long ago when a good part of our society still
believed that human slavery was an essential part of our eco-
nomic system. I am sure there were people throughout history,
even in ancient times, who questioned the practice, and said
things like, “I think there’s something fundamentally wrong
with this whole treating people like property thing…”
And that is why I wrote this book.
I am speaking up now and saying there is something funda-
mentally wrong with an industry that has convinced investors
they are entitled to $36 trillion that doesn’t exist. There is
something fundamentally wrong with an industry that sells im-
aginary products without any proof of their legitimacy or value.
And there is something fundamentally wrong with an industry
that pays people unimaginable amounts of money for creating
absolutely nothing.
I have no doubt that centuries from now, kids in middle
school will study our history and say, “People didn’t know the
difference between $36 trillion of imaginary money and real
currency? They actually believed colorful charts on screens
could help them gamble? They just completely ignored the his-
tory of stocks, all the market crashes, and the lack of academic
proofs? Were people really that stupid back then?”
Looking back, we now realize that a functioning economy is
not dependent on the barbaric practice of trading people like
property. Over time, we will also realize that it is not depend-
ent on trading cash for unaccountable promises.

138
 You don’t need to be a mathematician or a logician to un-
derstand why money doesn’t grow on trees.
If you find yourself in a debate with passionate finance junk-
ies, do not be intimidated by their industry-laced jargon. Just
remember the following, as they play a character from CNBC:
They have no idea how much money their industry has lost for
people. They do not know the real history of stocks. They be-
lieve an assumed asset value is the same thing as cash. And
they cannot explain the origin of profits for stocks without de-
scribing the Ponzi process.
They will misuse words like “theory” to describe ideas that
have failed experimentation, and talk about fictional concepts
with factual conviction. They will use hypothetical arguments
to debate the observable and try to discredit everything I have
stated. But, there is one fact they cannot refute.
The Ponzi Factor can explain 100% of all historical market
crashes, future bubbles and crashes, and what is happening
every time the stock market jumps or drops. What caused the
tulip bubble crash in 1637, the stock market crashes of 1929
and 1987? What caused the dot-com crash in the early 2000s
and the financial crisis crash in 2008?
It was a lack of cash from new investors.
The Ponzi Factor also works in the other direction. Why
doesn’t Warren Buffet feel the need to pay dividends? Why
does Google have so much money to spend on real estate?
Why are cryptocurrencies, like bitcoin, hitting epic highs? And,
how did Bernard Madoff run up a $50 billion scam?
Because their investors are paid with the money from other
investors.
Despite everything I’ve said, I’m sure many of you still be-
lieve in the idea of investing. You still believe there is a way to
park your money in an account and magically watch it grow—
and that we are somewhat entitled to this phenomenon.

139
 The Ponzi Factor

That’s okay. Even I still have a hard time letting go of that

idea completely. It’s hard to unlearn what we’ve been taught,
and it takes time for the truth to sink in. I just hope I’ve shared
enough information for you to question the idea.
I don’t expect real change to happen quickly, or even in my
lifetime. But, the annoying thing about truth is, it’s hard to ig-
nore after you see it… Even if you don’t completely agree with
the message I’ve conveyed at this moment, the things I’ve
stated will be like background music that gets louder and
louder over time. Every time the market dips or crashes will be
a reminder of the existence of the Ponzi Factor, and with every
reminder, the window to the truth will also open a little wider.

“All truth passes through three stages. First, it is ridi-

culed. Second, it is violently opposed. Third, it is accepted
as self-evident.”
―Arthur Schopenhauer

Real profits come from end-users. Ponzi profits come from

other investors.
The truth really is just that simple.

140
141
THE END
 POSTFACE

“It’s funny how the economy is about to collapse because

people are only buying what they need.” –Tan Liu, March
30th, 2020

The Ponzi Factor is the most comprehensive research ever

compiled on the negative-sum nature of capital gains. What
you just read was not a perspective or opinion, but a proof that
is grounded in logic, and backed by history and data. There are
others, like Mark Cuban, who have also called the stock market
a Ponzi scheme, but this is the only research that proved it.
If you understood what you just read, you will never go back
to seeing the stock market the same way again. The good news
is, your enlightenment is just beginning and you will see the
truth reveal itself with greater clarity in the months and years
ahead. The bad news is, just because you can see why 2 + 2 = 4
doesn’t mean others will. Some people are determined to see
stocks as ownership instruments and there is nothing anyone
can show to make them change their mind.
Over the past two years, I have debated hundreds of finance
junkies who never read the book, and three, who have. All their
defenses for why they believe Ponzi assets are equity involved
hypothetical assumptions about the future and the universal
error. No one came close to defending Ponzi assets with ob-
servable facts in practice. The few critics who read the book,
ignored everything they read. They mentally blacked out all the
inconvenient facts they didn’t want to accept. I recently con-
cluded a three-month long conversation with an economics
student and the final outcome was: He acknowledged that
Google’s class C shares with no dividends or voting rights, was
never ownership, is not ownership now, and is not going to be
ownership for the foreseeable future. BUT he still believes it’s
ownership! He also argued that hypothetical assumptions are
more important than observable facts, and that I should allow
hypotheticals in the proof, even though hypotheticals are com-
pletely unprovable.
Those experiences made me realize my debates are never
factual, but psychological. The idea that non-dividend stocks
are equity is a mental illness. Some people will believe what-
ever they want to believe, regardless of the facts. It does not
matter how educated they are or how logical you are when you
explain 2 + 2 = 4. If someone wants to believe that a system
that shuffles money between investors can produce more
money than investors contribute, and 2 + 2 = 5, they will find a
way to rationalize why the answer is 5. In the book, I said “Peo-
ple are much too intelligent to be brainwashed, but we can be
miseducated.” But I was wrong. People can be brainwashed,
and many will fight to stay brainwashed.
BUT keep in mind that Ponzi schemes are profitable for
early investors and a lot of severely brainwashed people have
also made a lot of money from Ponzi assets. In contrast, a lot
of logical people have also lost a lot of money betting against
Ponzi assets from Tesla, which does not follow any logic. If we
look at the unrealized returns to Ponzi assets like Tesla and
Shopify between 2019-2020, we’ll see that they are much
greater than legit dividend stocks from IBM or Verizon. It’s not
right, but that’s way it is right now.
The recent economic response to the coronavirus also
showed that the US Government is willing to do whatever it
takes to keep the world’s biggest Ponzi scheme from collaps-
ing, even if it means introducing widescale moral hazard and
printing trillions of dollars that can lead to hyperinflation. No
one saw that coming, and no one know what the fallout will be.
I think we can expect to see greater income inequality, social
unrest, and higher inflation.
The Ponzi Factor was written under the assumption that
regulators like the SEC were ignorant or neutral. But now, it’s
clear that the regulators are dirty cops who will bend rules to

146
artificially support the world’s biggest Ponzi scheme. A lot of
people blame the Federal Reserve for supporting the stock
market, but I blame the SEC. The Fed’s monetary policy can
only influence the performance of Ponzi assets. The SEC is re-
sponsible for the existence of Ponzi assets. The coronavirus was
a catalyst for what should’ve been an apocalyptic collapse, but
the stock market didn’t go anywhere. It’s not right. But rather
than fighting it, I think it’s better to take that into consideration
and deal with it. Unfortunately, with interest rates at 0%,
America is now a country where people can lose what they
have by saving money. The current system is basically forcing
people to invest, gamble, or get left behind.
I did not write this book to give investment advice, and the
last thing I want to do is offer advice on stocks. But I am com-
fortable in sharing the following. If you want to buy stocks:
- Get a solid company that is not going away (Apple,
Amazon, Lockheed Martin).
- Learn how to use two options strategies; covered
calls and cash secured puts. They are simple and safe
strategies that can improve your cashflow and cost
basis.
- Know that Ponzi assets like TSLA and dividend stocks
like IBM behave very differently. They react differ-
ently to news and fundamentals, and those behavior
can also change over time.
And finally, NEVER forget The Ponzi Factor. Don’t expect
any stock price to behave logically. Don’t cry when you see a
stock drops 3% after the company raises dividends, guidance,
and beat earnings and revenue estimates (LMT on
10/21/2020). The Ponzi Factor is always in play, and this is the
only research that can definitively explain why prices move in
the opposite direction from fundamentals.

147
 Is the stock market similar to a Ponzi scheme? Absolutely.
But can you make money from a Ponzi scheme if you get in
early? Yes.
In the final chapter, I said stock market will ultimately col-
lapse… But you should also consider the foreseeable—a world
with interest rates at 0%, inflation, and a government that is
backing the biggest Ponzi scheme in human history. It’s a
messed-up situation and I don’t have all the answers.
We are all feeling uncertain about the future. But we are all
in this together, and we will get through it together.

148
149
 SUPPORT

The Ponzi Factor is a non-profit enterprise. It for sale at Am-

azon, iBook, and Audible, but the book is also available for free
to anyone who wants it. If you enjoyed the book, please leave
a review on Amazon or Goodreads.com. It is the easiest and
most effective way for you to share the truth. You can also sup-
port the cause in the following ways:
- Share the book. Download the free PDF at
www.ThePonziFactor.com. You have my permission
to share it with anyone and everyone.
- Let’s connect on social media. Find “The Ponzi Fac-
tor” on Facebook, Instagram, Twitter, YouTube, and
TicTok. You can also connect with me on LinkedIn,
and Facebook.
- Get the audiobook: www.bit.ly/ThePonziFactorAudio
Lastly, this book was self-published in February 2018 be-
cause of timing. The project started in 2012 and took far longer
than expected. By late 2017, I was in a hurry to release the
book thinking: What if Google starts paying dividends? No ef-
fort was made to find publishers and Google still has no plans
to pay their shareholders.
Thank you for your support. I will continue fighting the good
fight. I will be ruthless, and I will be relentless…and I will finish
with my shield or on it.

—Tan Liu
 Lexicon

ANALYSIS
DIRECT FACTORS: Absolute determinants of profit. Fundamental
factors that do not change. Direct factors make up the mechanics of
transactions. Direct factors can determine if a scenario is positive,
zero, or negative sum. Factors that can explain causality.
INDIRECT FACTORS: Speculative determinants of profit. Factors based
on opinions and events that may or may not occur. Indirect factors
are typically unprovable. In the best case scenario, these are factors
that can show associations.
FALSE BUYBACKS: A scenario where the shares outstanding for a
company do not decrease around the year it announced or engaged in
stock buybacks.
FALSE DIVIDENDS: Dividend payments that are connected to dilution.
IDEA OF INVESTING: The assumption that it is possible to make money
with money and in the absence of labor—and this experience is
dependent on intelligence and skills, rather than luck; something that is
fundamentally different from gambling.
INVESTING AND GAMBLING
In a scenario where the exchange, transaction, or wager does not
involve any tangible assets, and the payoff is one-to-one.
INVESTING: A scenario where the probability of success is
quantitatively defined and greater than 50%.
GAMBLING: A scenario where the probability of success is
quantitatively defined and less than or equal to 50%, OR a scenario
where the probability of success cannot be quantitatively defined.
Quantitative definitions with expected value:
INVESTING: In an exchange that does not involve tangible goods; a
scenario where the probability of success can be defined and the
expected (monetary) value of the wager is positive.
 GAMBLING: In an exchange that does not involve tangible goods; a
scenario where the probability of success can be defined, and the
expected (monetary) value of the wager is zero or negative, OR a
scenario where the probability of success cannot be defined.

LEGITIMACY
LEGITIMACY IN PRACTICE: An event that is foreseeable and likely to
occur in practice. An event that is not just hypothetically possible.
LEGITIMATE ASSET: When the value of an asset is backed by a defined
entity or thing that posses real value (“Real Value” will be defined later
in the Value section.)
PONZI ASSET: Something that has no physical or intrinsic value, but only
a monetary value that is not backed by any entity. Ponzi assets only
posses Ponzi value, which can only be realized through a monetary
exchange in a scenario where no defined entity has to take part in the
exchange. (“Ponzi Value” is defined later in the Value section.)
PONZI FACTOR: The process wherein current the investor’s profits are
dependent on cash from a new investor.

154
 Lexicon

SCENARIOS
GOOGLE SCENARIO: A scenario where shareholders make nothing for
a period while the underlying company report profits.
TESLA SCENARIO: A scenario where shareholders can make money
from stock value appreciation during a period while the underlying
company suffers extraordinary losses.
SUMS
NEGATIVE-SUM: The net sum of all the wins and losses are negative.
POSITIVE-SUM: The net sum of all the wins and losses are positive.
ZERO-SUM: The net sum of all the wins and losses are equal to zero.
Transactions
END-USER: An individual or entity that purchases goods or services
with the intent to use or consume the goods or services.
COMPLETE TRANSACTION: A transaction when all parties involved in
the exchange are content with holding, consuming, or using the final
product. A complete transaction involves at least one end-user.
Money/cash is the medium of exchange for any and all goods and
services. Therefore money/cash is a final product all parties are
content with holding.
Only complete transactions can be analyzed to determine whether
an investing/gambling scenario is positive, zero, or negative sum.
INCOMPLETE TRANSACTION: A transaction when some parties involved
in the exchange are not content with holding, consuming, or using the
product that resulted from the transaction. Incomplete transactions do
not involve end-users.
UNIVERSAL ERROR: The error of treating the assumed monetary value
of an asset as a cash equivalent.

155
Value
The word “value” does not have a uniform or universal definition. The
legitimacy of value can range from Ponzi values to real values and
other forms of value in between.
PONZI VALUE: A value that can only be realized through a monetary
exchange in a scenario where no defined entity has to take part in the
exchange. (Can also be considered imaginary or speculative value.)
LEGITIMATE VALUE: A value that can only be realized through a
monetary exchange where there is a defined entity that has to take
part in the exchange. (A bond can have legitimate value. A bond does
not have physical or intrinsic value, but the company that issued the
bond is responsible for repaying the face value of the bond.)
REAL VALUE: A value that can be realized with or without a monetary
exchange. (A house is an example of something that has real value.)

156
 Endnotes

General
This project started in 2012. The material was updated several times to
compensate for changes in the data and news. The final version was first
published in February 2018, updated in August 2019, and October 2020.
As of 2019, roughly 35% of the stocks on the NYSE and NASDAQ paid
dividends, but it’s not that simple. The ratio changes as new Ponzi assets
enter and exit the market. Many of those dividends are also micro divi-
dends or “false dividends” that are tied to dilution (from Chapter 6).

Introduction
Madoff’s winners: According to the Madoff Recovery Initiative. As of Jan-
uary 2018, the number of accounts that were Denied Claims (because the
money withdrawn exceeded the principal investment) was 2,696, and the
number of Allowed Claims was 2,625. Investigators are still uncertain of
the number of investors that were involved. Each account can have any-
where from one to thousands of investors.
$36 trillion market capitalization: The market capitalization data are
from the World Federation of Exchanges. The combined market capitali-
zation for the NYSE and NASDAQ was $35.889 trillion in June 2019.
Measurements of money; the monetary base, M1, and M2 money sup-
ply:
There are different measurements for the money supply. The one I refer-
enced throughout the book was the Monetary Base, but there are also the
M1 and M2. The Monetary Base represents the amount of cash currency
that is in existence in the US economy. It is the base form of money, which
all other forms of money are derived from. In June 2019, the US Monetary
Base has a total of $3.275 trillion with $1.739 trillion in circulation (As of
August 2020, the total was $4.807 trillion with $2.007 in circulation). The
currency that is in circulation includes what is in your wallet and in use in
the economy. The currency that is not in circulation are held as reserves.
The M1 and M2 money supply includes the currency in circulation (the
$1.7 trillion element of the Monetary Base) and other money-like things
such as banknotes, which are derived from cash currency and backed by
banks.
In June 2019, the seasonally adjusted M1 was $3.824 trillion and basically
consists of:
- currency that is in circulation
- traveler’s checks
- the amount in interest-free and interest-bearing checking ac-
counts
- the amount of money that is reflected in checking accounts are
also known as Demand Deposits, Other Checkable Deposits, and
Negotiable Order of Withdraws (these items are not real cash
currency, but money the bank says their clients can spend, which
they will back—this amount is based on a reserve limit kept by the
bank)
The seasonally adjusted M2 was $14.7712 trillion in June 2019 and basi-
cally refers to everything in M1 plus:
- savings deposits: accounts that pay interest, but can’t be used as
direct access for payment
- time deposits (certificate of deposit) that are less than $100,000
- money market funds: assets that are composed of secure debt
instruments like treasury bonds
Banks are allowed to lend out more money (legitimately backed notes)
than they have on hand because the US has a Fractional Reserve banking
system. Some people are against the fractional reserve system and think
it’s a scam in itself, but that’s a separate subject altogether.
The Analogy: “If I mail you a chair that was missing three legs, the seat
surface, and the backrest. Whatever I sent you, can I really call that a
chair?”
This analogy was inspired by something Lee Smolin said in his book The
Trouble with Physics as he described the incompleteness of string theory.

158
 Endnotes

Chapter 3: The Idea of Investing

The money Wall Street plays with comes from normal people:
According to the 2019 Investment Company Fact Book published by the
Investment Company Institute, over 60% of mutual funds are holding
stocks.
According to the United States, Internal Revenue Services, Individual Re-
tirement Accounts (IRAs) almost exclusively invest in publicly traded se-
curities like stocks or other synthetic assets. The IRS also imposes an
additional 10% tax if the IRA invests in tangible goods—called collectibles.

Chapter 4: The Idea of Investing

DEFINITION OF ACADEMIC IDEAS: Aside from the big two—theorems and
theories—there are a few other legitimate academic ideas that require val-
idations. Here is a list of those ideas in simple language, which is more
readable, but also less definite without the rigorous academic grammar.
(From my experience, many academics who have PhDs in math and
science still struggle with the nuances of these terminologies.)
FOUNDATIONAL ASSUMPTIONS
DEFINITIONS: Any defined statement; it does not require proof or
validation.
Examples: We can define a table as a flat board supported by four
legs. We can define the symbol Ω (omega) be the set of all
outcomes in a game of dice.
AXIOM: A self-evident idea that is accepted as true without any proof.
POSTULATE: A modern synonym for axiom.
IDEAS THAT MAY OR MAY NOT BE TRUE:
CONJECTURE: An educated guess. An unproven theorem.
HYPOTHESIS: A proposed explanation for an observable
phenomenon. An educated guess that requires further testing. An
unvalidated theory.

159
EXPRESSIONS:
FORMULAS: A mathematical expression; the Pythagorean theorem is
expressed in the formula 𝑎2 + 𝑏2 = 𝑐 2 . The formula does not ex-
plain why the idea works but how it can be used in calculations.
MODEL: Something that takes inputs and produces an output or
outputs; a model can consist of one or multiple formulas; models can
be used to illustrate data, but they can’t explain why anything works.
VALID CONCEPTS:
THEOREM: A true statement of great significance proven with axioms,
other proven statements, and logic.
COROLLARY: A true statement, that resulted from a proven theorem.
Smaller ideas that are proven in the process of proving a theorem.
LEMMA: A true statement that was proven, and is meant to be used
to prove another theorem.
PROPOSITION: A true statement that is less significant than a
theorem.
THEORY: A hypothesis that has been validated with experimentation
and testing. Theories can answer the question of why something
happens.
LAW: A valid idea that is naturally observable. Unlike theories, laws
are not proposed ideas that can explain why something works.
KEY DIFFERENCES:
AXIOM VS. POSTULATE: According to multiple sources; these two are
pretty much the same thing. Merriam-Webster’s simple definition
seems to propose that a “postulate” has more of a suggestion tone to
it, while an “axiom” is something that is completely self-evident.
THEORY VS. MODEL: Both of these involve the observation of data;
however, a theory helps explain why something happens with
experiments and data to validate the assumption. A model just takes
in data and outputs results. A model is a tool that can help test
theories. Theories are ideas that try to answer meaningful questions.

160
 Endnotes

THEORY VS. LAW: A law is based on observations. A law can explain

how something works based on what has been observed. On the
other hand, a theory can explain why observations occur.
THEOREM, PROPOSITION, LEMMA, AND COROLLARY: The nuances
between these terms are extremely subtle. They are all true
statements, and you have to be somewhat familiar with proofs to truly
appreciate the differences. The following passage from The Book of
Proof by Richard Hammack offers a concise explanation of their
differences:
It is important to be aware that there are a number of words that
mean essentially the same thing as the word “theorem,” but are
used in slightly different ways. In general the word theorem is re-
served for a statement that is considered important or significant
(the Pythagorean theorem, for example). A statement that is true
but not as significant is sometimes called a proposition. A lemma
is a theorem whose main purpose is to help prove another theo-
rem. A corollary is a result that is an immediate consequence of
a theorem or proposition.

Chapter 6: The Stocks Market

Analysis: The analysis of the stock market is based on observable sce-
narios that are foreseeable in practice. It ignores hypothetical scenarios
and unforeseeable actions—such situations are speculative and usually
immaterial.

Google scenario months: For design considerations, the months for the
periods were left out of the chart in the manuscript.
Capital
Company Time Period Net Income Dividends
Gains
B. Hathaway (BRK-A) Jan 2008–Dec 2012 $49,457,000,000 $0.00 $0.00
Google (GOOG) Jul 2007–Sept 2011$28,656,500,000 $0.00 $0.00
Apple (AAPL) Oct 2007–Sep 2009 $14,354,000,000 $0.00 $0.00
Yahoo (YHOO) Oct 2009–Oct 2012 $5,421,570,000 $0.00 $0.00
Regeneron (REGN) Feb 2014–Nov 2016 $1,664,096,000 $0.00 $0.00
Chipotle (CMG) Jan 2014–Dec 2015 $911,983,000 $0.00 $0.00
Facebook (FB) Jun 2012–Jul 2013 $776,500,000 $0.00 $0.00
Netflix (NFLX) Jul 2011–Aug 2013 $205,150,000 $0.00 $0.00
Income for partial years are estimated based on the annual net income reported in the 10-K filing.

161
Why Google?
I was hard on Google, but the company was actually targeted for unrelated
(non-financial) political reasons. When I started this project in 2012, I had
no idea what Google’s finances looked like, how their stocks behaved, the
existence of their class C shares, or how they withheld billions in profits
from their investors. All I knew was; Google had common stocks, and like
all public companies, there’s always more dirt hiding under the surface.
Google is now called Alphabet Inc. I referred to the company as Google
rather than Alphabet because that’s the name people are familiar with.
Why nonguaranteed dividends and other possible payment methods
not taken into account:
Rare situations where a company engages in trivial payments were not
taken into consideration for several reasons:
- A lot of public companies never engaged in one-off payments.
- These events are unforeseeable and speculative. Even if a com-
pany engaged in a payment at some point, there’s no way of
knowing if it will ever happen again. The legitimacy of an invest-
ment instrument needs to be based on what is observable on a
regular basis, not something that may or may never happen.
- When these payments do take place, the amount that’s given
back to the market is minuscule and immaterial.
- These payments are often tainted. They can be the result of
litigation, or if a payment was made, something unclear hap-
pened later to nullify the payment.
An example of a tainted situation is when Google announced a stock re-
purchase in 2016. According to a Business Insider article, Google bought
back about 5 million shares of their own stock. If this is true, then the total
number of shares outstanding from December 2015 to December 2016
should’ve been reduced by about 5 million shares. But this didn’t happen.
According to Google’s 2015 and 2016 10-K filings, the number of shares
outstanding for the company didn’t reduce by 5 million, but it increased by
3 million.

162
 Endnotes

Google's Shares Outstanding

2015 2016 Difference
Class A 292,580,627 297,117,506 4,536,879
Class B 50,199,837 47,369,687 -2,830,150
Class C 345,539,303 346,933,134 1,393,831
688,319,767 691,420,327 3,100,560
Source SEC 10-K filings (Google Inc., Alphabet Inc.)

A number of things could have happened. Google might have bought back
5 million shares but also issued an additional 8 million (-5m + 8m = 3m),
or some of their employees could have exercised stock options or other
possibilities. I’m not speculating on what Google did or didn’t do, but only
pointing out that the number of shares outstanding in the SEC 10-K filings
does not reflect a stock repurchase of 5 million shares.
Even if the buyback was legitimate, Google can print new shares and
rescind what they returned in the future..

163
 References

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site.

171
 Author

“I do not come with accusations, but only suspicion.

I cannot trigger market crashes, but I can invoke what
you already know.”

Tan Liu was born in Beijing, China.

He moved to the U.S. when he was six
and was raised outside Washington D.C.
Unlike his sister who finished high school
and got a scholarship to MIT, Tan took a
less traditional path and went straight into
the working world. He was employed as
a bike courier after high school and later
supported himself through college as a
freelance photojournalist for networks
such as CNN, MSNBC, and Fox. In
addition to his professional life, Tan also spent many years
volunteering as a youth mentor in D.C. and Inglewood,
California.
He has undergraduate degrees in economics and finance, and
a master’s in applied statistics. He has worked for two hedge
funds and a trading firm in Shanghai but spent most of his fi-
nance career managing distressed assets for a bank. He officially
exited the finance industry in 2015.