Give $100k. Get big returns. Don't bet on it

NEW YORK (Money) -- Question: An advisory firm has told me they can help me earn a minimum return of 1 percent per month on a $100,000 investment. As I understand it, they borrow four times the amount you invest to buy blocks of bonds and then somehow simultaneously sell smaller blocks of those bonds.

I've heard that in some months, they have paid out an 8% return. I've been told this company is backed by a very reputable major investment firm and that your money is escrowed so that you can't lose it. Do you think this is a legitimate investment opportunity or a scam? -Vicki, Buffalo, Minn.

Answer: Based on what you've told me, it could very well be a scam, that is, a Ponzi scheme or other ploy designed solely to separate you from your money.

But it's also possible that it could also be a perfectly legal investment that comes with latent fees or a zillion strings attached that make it virtually impossible for you to collect those enticing returns.

Either way, I think you should just avoid it, as well as anything else this firm is peddling and, for that matter, any other investments pitched in a similar way.

Why? Well, this just doesn't pass what I call the "sniff test." It just smells bad. In fact, the "investment" you've described has three of the classic malodorous elements that are common to outright flim flams and dubious, though legal, investments that promise more than they'll actually deliver.

Those smelly attributes are:

A promise of unrealistic returns. Yes, some investments have earned 12 percent or more per year. But they don't do it by earning a minimum rate of return every month. Fact is, the higher an investment's return, the more volatile its returns tend to be, the more its returns will bounce up and down and include losses in some periods as well as gains.

Take small stocks. They've gained roughly 12 percent a year over the past 80 years or so. But the route to those gains has been bumpy, even terrifying, as small-fry shares have gone through bear markets where they've lost more than half their value.

I'm sorry, but there's just no way anyone can truly guarantee 1 percent a month. Stocks are far too volatile to deliver such a return month to month. And you're not going to get it in bonds or in CD-like investments when long-term interest rates on government and high-quality corporate bonds are hovering at 5 percent to 6 percent. Not gonna happen.

Guarantees of ironclad safety. The people who pitch suspect investments know that the other side of greed is fear. They know that, deep down, people worry about putting their money at risk.

So to assuage those natural qualms, they throw in various backstops or guarantees. Or they create diversions.

An "escrow" account? Fundamentally, an escrow account merely holds money that is set aside for some purpose, such as paying real estate taxes in the case of a mortgage transaction. But even if this escrow account exists - which I wouldn't take as a given - I don't see how it insulates you from investment risk.

As for the notion that their firm is "backed" by a well-known firm, that could mean anything, and probably amounts to nothing. Many sleazy penny stock firms, for example, throw the names of big brokerage houses into their pitches because a well-known firm may simply handle administrative details for them. But that doesn't mean the big-name firm in any way vouches for the securities these shady companies are touting.

Yes, there are investments that offer real guarantees against loss or even minimum returns. But if you examine them closely, you'll usually find reams of fine print that show the guarantee is hedged or comes with fees that make it far less attractive than it seems. (On that score, I suggest you take a look at a column and a feature story I wrote dealing with equity index annuities, an investment that, though "legitimate," to my nose at least often stinks to high heaven.)

A "story" suggesting special investment expertise. If you've ever read a John Le Carré espionage novel, you know that a good spy needs a believable cover story, something that convinces people the agent is a regular guy rather than a covert operative. Well, scam artists and purveyors of suspicious investments do something similar. They come up with stories that create the overall impression that some special investing expertise or unique system allows them to generate incredible returns with little or no risk.

But if you examine these stories closely, you'll usually find that they're a bit vague, or that you can't completely connect the dots. In your case, for example, the advisory firms talk about buying bonds with borrowed money and then "simultaneously" selling them in smaller lots. How this in any way assures a profit is beyond me. Often, their pitches include glitzy graphics that are filled with lots of numbers, details and such but actually deliver little real information. It's all smoke and mirrors.

My advice: any time you get pitched an investment that contains any of these elements, just walk away. It's just not worth the time or effort to try to sift through the confusing claims. In fact, trying to do so often just sucks victims in.

Real investing is not complicated. You assemble a portfolio of mutual funds, stocks or bonds based on the length of time you'll be investing the money and your stomach for risk. (For details on how to do this, check out the lessons on stocks, bond and mutual fund investing and the lesson on asset allocation in Money 101.)

You try to hold fees down as much as possible so that more of the returns go to you rather than the adviser. And, aside from rebalancing your portfolio every year or so to bring the mix of stocks and bonds back to the blend you originally set, you tinker as little as possible with your long-term strategy.

I've found that most of the time someone tries to convince you to do anything more complicated than that, it's either a cover for a way to charge higher fees. Or, worse yet, a bald attempt to separate you from your money.

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