Reverse Mergers: Americans Caught in Chinese Investment Scams

The China Hustle

Directed by Ted Rodstein (2018)

Film Review

This documentary exposes a recent scam which some 400 small Chinese companies used so-called “reverse mergers” to list their companies on the New York Stock Exchange (NYSE) – a move enabling them to attract American investors.

At preset, the Chinese government bans direct foreign investment in China’s businesses. However between 2006 and 2012, two enterprising US investment banks (Roth and Rodman and Renshaw) enlisted small Chinese companies to enter into “reverse mergers.” Locating legally registered US companies that had ceased operations, the two banks recruited Chinese companies to legally “merge” with the defunct companies. This, in turn, enabled the Chinese companies to register on Wall Street and sell shares to US investors.

A pattern emerged, in which Roth and Redman and Renshaw obtained high accreditation ratings from their auditor (Deloitte) and aggressively promoted the stocks. Then they sold their holdings just before they collapsed – reaping hundreds of millions in profits.

Becoming suspicious, Dan David, co-founder of the due diligence firm Geoinvesting, became suspicious and went to China to visit some of these companies. In every case, he found they were exponentially overstating the size and volume of their operations, as well as the revenue they generated.

He first took his findings to the investment bankers at Roth and Redman and Renshaw, then to the SEC (which is theoretically responsible for preventing this type of fraud) and finally to Senator Pat Toomey. The latter was part of the Senate committee investigating n the potential risk China posed to the US economy.

When it became obvious there was no other way to end the fraud being perpetrated on US investors, David began collapsing the share price the companies he investigated by short selling* their stocks.

In this way he ended 40 reverse merger scams by shutting down the companies.

Before the massive fraud came to public attention, public pensions funds lost more than $14 billion in reverse merger scams, with private investors losing $20-50 billion. Rodman and Renshaw was eventually forced into bankruptcy.

* Short selling involves the sale of an asset that the seller has borrowed in order to profit from a subsequent fall in that asset’s price. It commonly has the indirect effect of driving the share price down.


Wall Street: Never Give a Sucker an Even Break

The Wall Street Code

VPRO (2013)

Film Review

While the rest of us are busting our ass to earn an honest living, Wall Street traders are running around thinking up new ways to rip us off. And laughing all the way to the bank. I love the way they refer to ordinary investors with pension funds or retirement accounts as “dumb money.”

The Wall Street Code is all about whistleblower Haim Bodek and his discovery of a secret algorithm used by high frequency traders to rip off mutual and pension funds (aka “dumb money”).

As of 2013, when this documentary was made, 70% of Wall street trading was automated and 50% occurred within milliseconds. When large volume trades are made, they always drive the share price up. This means there’s a distinct advantage in getting your order in before a large volume trade by a pension or mutual fund.

Badek discovered a secret algorithm that alerted unscrupulous traders to large volume trades before they were made public and help them jump to the front of the queue (and purchase stocks before the share price started to rise).

Michael Lewis writes about a similar scam in his 2015 book Flash Boys. The book concerns whistleblower Brad Katsuyama’s discovery that high frequency traders were secretly exploiting minute differences in the speed of electronic transmissions (see Wall Street More Deeply Corrupt than We Thought).

Bodek believes that Lewis seriously underestimates the serious amount of fraud occurring on Wall Street. Bodek’s persistence has resulted in the prosecution of the New York Stock Exchange by the Security and Exchange Commission – resulting in unprecedented fines being imposed.


911 Trillions: Follow the Money

In this documentary, James Corbett approaches the mystery of 9-11 by tracing money flows rather than physical evidence – ie he identifies individuals and companies that plainly had foreknowledge of the 9-11 attacks and used it to reap windfall profits.

The three main ways people profited from 9-11 were insurance scams, insider trading and fraudulent electronic transactions. Ironically the Securities and Exchange Commission (SEC), 9-11 Commission and FBI identified some of the same scam artists as Corbett and other private researchers. Bizarrely they declined to indict them owing to “no known ties to al Qaeda.”

Insurance Scams

Key suspects: Larry Silverstein, GMAC (the finance arm of General Motors) and real estate developers Lloyd Goldstein and Joseph Kerr. GMAC, Goldman and Kerr helped finance Silverstein purchase of the Twin towers from the New York Port Authority in July 2001. Immediately on taking possession, Silverstein doubled the insurance coverage from $1.5 billion (the buildings’ assessed value was $1.2 billion) to $3.55 billion. In addition, following the attacks, the Port Authority repaid Silverstein 80% of the original lease. In total, Silverstein netted a $4.5 billion profit from 9-11.

Insider Trading

On Sept 10 2001, the SEC identified a 90% increase in “put options”* for companies whose stocks would tank the week after 9-11:

  • United Airlines
  • American Airlines
  • Morgan Stanley (one of two major tenants in Twin Towers)
  • Marsh & McLennan (one of two major tenants in Twin Towers)
  • Boeing
  • Citigroup
  • Axa
  • Merrill Lynch
  • J P Morgan
  • various reinsurers

The SEC also noted a six-fold increase in “call options” on defense contractor Raytheon (manufactured missiles subsequently used in attack on Afghanistan) in the weeks prior to the attacks.

Three of the most prominent insider traders were Mrs and Mrs Wirt D Walker III (distant relatives of George Herbert Walker Bush and business partners with Marvin Bush with links to the Carlyle Group***) and Deutsche Bank, Alex Brown Division, run by to Buzzy Krongard, former consultant to former CIA director James Woolsey Jr.

Fraudulent Electronic Transactions

Marsh & McLannan was responsible for developing Silverstream, an innovative method of paperless electronic transactions. A team of March & McLannan auditors were investigating $100 million in suspicious transactions involving AIG and Deutsche Bank. All were killed in the 9-11 attacks – their data sets conveniently destroyed. A German company Convar was able to reconstruct most of these transactions from hard drives recovered at Ground Zero.

Attack on the Pentagon

The attack on the Pentagon killed the Department of Defense team investigating the $2.3 trillion that went missing from the DOD 2000-2001 budget – and destroyed all their data.

*A put option lets the option owner sell a stock at its original price when the share price falls – pocket the difference.

**A call option lets the option owner buy a stock at its original price when a share price increases – and pocket the difference.

***Carlyle Group – a global equity management group, closely linked with George H. W. Bush and the bin Laden family.

Wall Street: More Deeply Corrupt than We Thought (No Really)

flash boys

Flash Boys: A Wall Street Revolt

By Michael Lewis

W W Norton (2015)

 Book Review

 Flash Boys is a true story about front running, the unethical practice of a stockbroker executing orders on a stock while taking advantage of advance knowledge of pending orders from elsewhere in the market.* From the bleak picture Lewis paints, it appears that investors – whether institutional or private – have virtually no way of protecting themselves against front running.

Like Lewis’s 2010 book The Big Short, Flash Boys reads just like a thriller, complete with exquisitely drawn heroes and villains. In this case, the heroes are crusading Canadian banker Brad Katsuyama and the assorted geeks and nerds who helped him start his own stock exchange. Katsuyama started IEX in 2013, after the Royal Bank of Canada and the Securities and Exchange Commission (SEC) refused to support his efforts to expose and end the practice of front running. By purposely slowing their transmission rates, IEX makes it impossible for high frequency traders to “front run” the trades occurring on the exchange. This has enabled Katsuyama to protect investors who use his exchange, while simultaneously collecting data on suspicious trades.

Flash Boys, a bestseller, originally came out in 2014. The 2015 edition includes an afterward in which Lewis describes being viciously attacked by the big Wall Street banks and brokers. He also enumerates a number of prosecutions of high frequency traders and brokerage firms (by the FBI, SEC and Financial Regulatory Authority) resulting from from the publicity Katsuyama’s work received from Flash Boys’ publication.

*The way this works in practice is you order 10,000 shares of a stock at a given price and a high frequency trader somewhere buys 10,000 shares at that price and resells them to you at a slightly higher price. Complex computer algorithms enable high frequency traders to exploit minute differences in transmission frequency to execute these secret trades – which usually take place in “dark pools” – private stock exchanges which keep no public record of their trades. All the major investment banks (Goldman Sachs, JP Morgan, Bank of America etc) have dark pools and high frequency traders pay for the privilege of trading in their dark pools.

Local Dollars, Local Sense


Local Dollars, Local Sense

by Michael Shuman

(Post Carbon Institute, 2012)

Book Review

Michael Shuman’s latest book, Local Dollars, Local Sense is valuable for three different groups of readers: sustainability activists seeking financial support for small locally owned businesses; local business owners seeking start-up and expansion capital; and investors seeking to move their IRA accounts and other Wall Street holdings to safer, more profitable and more socially responsible and environmentally friendly investments.

There is growing consensus among economists and anticorporate activists about the importance of relocalization as the centerpiece part of any realistic solution to the economic, energy and environmental crises that face us. Across the planet, thousands of neighborhoods and towns are coming together to opt out of corporate agriculture and energy production in favor of local food and energy production schemes. The biggest obstacle they face is finding sustainable funding to support their work.

A Dearth of Funding Options for Local Business

At present options for small businesses seeking start-up funding for organic farms, solar installation companies and similar “green” enterprises are extremely limited. A small business owner needing finance has two basic choices. They can take out a time-limited loan at interest or they can sell shares and allow other people to become part owners and share in the profits (or losses).

Even prior to the 2008 economic crisis, it was virtually impossible for small business owners to find conventional bank loans. Nearly all the neighborhood banks we grew up with have been bought out by global investment banks, which have no incentive to make loans to small local businesses. The recent move by millions of Americans to move their accounts out of global banks to local banks and credit unions – which do support local business – has been a move in the right direction. Yet as Michael Shuman points out in Local Dollars, Local Sense, this is merely a drop in the bucket compared to the $30 trillion Americans have invested – mostly through IRAs and pension plans – in Wall Street Fortune 500 companies.

Shuman, a member of the Post Carbon Institute and partner at Cutting Edge Capital makes, a compelling case for moving half ($15 trillion) of it out of Wall Street and investing it locally.  He presents strong evidence that local businesses provide a higher and more reliable return than the Wall Street casino, as well as providing a host of benefits for society and the environment. Unlike multinational corporations, they have to be accountable to local residents who patronize them. This translates into a strong incentive to be environmentally responsible, to treat workers fairly and to contribute positively to the community.

How Banks and Corporations Game the System

Although small local businesses produce 50% of the US GDP, as well as providing 50% have the jobs, fewer than 1% of Americans’ combined savings and investments help to finance local business. Most Americans still keep their short term savings (if they have any) in large multinational banks. In most cases, their only long term savings are tied up in IRA plans and pension funds. With the exception of municipal bonds, nearly all of this is invested in Fortune 500 corporations with no loyalty whatsoever to any community, state or country.

The main reason most Americans invest in Wall Street is because powerful bank and corporate lobbies give them no choice. There are serious legal obstacles preventing people from investing in local business. Outdated securities laws passed during the Great Depression make it virtually impossible for “unaccredited” investors (approximately 98% of Americans) to invest even small amounts in local companies. “Accredited investor is a term delineating the qualifications needed to participate in “high risk” investments, such as seed money, limited partnerships, hedge funds, private placements, and “angel” investments. In the US, an accredited investor must have an income of $200,000 (for three years) and a net wealth of at least $1 million (excluding their residence).

A new business seeking funding from “unaccredited” investors is required to register with the SEC and state regulators. This, in turn, requires the creation of a disclosure and other legal documents at a cost of $25,000-150,000 in attorney fees. The U-7 or SCOR (Small Company Offering Registration) form alone is 39 pages, and each form must be accompanied by 14 disclosure documents.

There seems little hope of reforming these archaic laws while powerful Wall Street lobbies control both Congress and the White House. However according to Schuman, communities across the US are trying exciting new financing models that circumvent existing securities law:

  • Worker and/or consumer cooperatives – workers and/or workers and consumers pool their resources and share ownership in the local business they are starting or taking over from a prior owner.
  • Pre-sales Contracts – companies generate start-up funding by lining up customers to pay in advance for their products.
  • Local Investment Opportunities Networks (LIONS) – local networks deliberately cultivate relationships between business owners and potential investors (the SEC and state regulators often waive the requirement for a SCOR if the investor is a family member or “friend”).
  • BIDCOs (Business Development Companies) – a type of investment club. BIDCOS aren’t required to register with the Security and Exchange Commission (SEC) but must provide managerial and technical assistance to beneficiaries as well as capitol. No Small Potatoes in Maine is an example of a BIDCO
  • Low cost DPOs (Direct Public Offerings) – if the business is limited to operating within state or offers the investment opportunity without public advertising, it may qualify for exemption from registration requirements. The business owner will still need to fill out a SCOR, but a number of public interest attorneys are seeking to streamline the process by creating “fill-in-the-blank” software.
  • Crowdfunding – a technique for pooling of large numbers of small contributions, usually via the Internet, for a specific project. If there is no expectation of return (except for a token gift or premium), there is no requirement to register with the SEC. Small business owners can register potential projects for crowdfunding at Kickstarter.
  • Local/Regional stock exchanges – in 1985 there were approximately a dozen regional exchanges (for example the Pacific Stock Exchange and the Boston Stock Exchange). Most were bought out by either the NYSE the AMEX or the NASDEQ. However according to Shuman, Mission Markets in New York is the most promising model for what future regional exchanges will look like. Mission Markets calls itself a “private marketplace” because obtaining SEC approval to become an “exchange” (where shares are traded) would involve major bureaucratic hurdles and cost half a million dollars.
  • Local Savings Pools – issues interest-free loans for a fixed period. According to Shuman, there is less risk of fraud as lenders and borrowers are more likely to know one another. Since there is no expectation of financial return, there is no requirement to register with the SEC or state regulators.
  • P2P (person-to-person) lending –, an international microlending (providing loans as small as $25 to third world entrepreneurs) website, is the best example. Inspired by the Grameen Bank founded in Bangladesh by Muhammad Yunis, Kiva has many imitators.