Final answer:
The answer to whether a Ponzi scheme is considered an investment scam is true, Option 1. Ponzi schemes pay returns to earlier investors using the capital of newer investors, leading to an unsustainable model that eventually collapses.
Step-by-step explanation:
A Ponzi scheme is indeed considered a type of investment scam, so Option 1: True, is the correct answer. A Ponzi scheme is a fraudulent investment operation where the operator generates returns for older investors through revenue paid by new investors rather than from legitimate business activities or profit of financial trading. Named after Charles Ponzi, who became notorious for using this technique in the early 1920s, these schemes entice investors with the promise of high returns with little or no risk.
In a Ponzi scheme, returns are typically abnormally high or unusually consistent, which often prompts investors to believe in the safety and legitimacy of the investment. The scheme leads to a sense of false security and encourages more people to invest. Over time, however, the scheme becomes unsustainable as it relies on a constant influx of new investments to continue. The highest-profile example in recent times would be the Bernard Madoff scandal, where Madoff defrauded his clients of billions of dollars in one of the largest Ponzi schemes in history.
In summary, the term Ponzi scheme has become synonymous with investment frauds that pay returns to earlier investors with money taken from newer investors. This kind of scheme fails when the flow of new investors slows down or when a large number of investors try to cash out their investments.