20210722 The anatomy of crime originated in e-mail.

Part of a systemic fraud that is responding to, or predictive of, socio-economic conditions

Again, what we see in e-mail did not originate in e-mail. The internet merely allows existing conduct to be scaled up and the costs scaled down.

The essential elements of this type of fraud are, actually, the same as for the previous type but here the scale moves it from a couple of criminals in a shed or a back bedroom to an industrial scale.

In the 1980s in the UK there was an upsurge in direct mail, leaflet drops and small-ads promising cheap home loans. Legitimate lending fuelled a house price boom. Afraid of missing out, millions of people borrowed money in various lending schemes including “low start” and “self-certified” mortgages.

These were the products that fraudsters set themselves up to sell with screaming headlines about “Having trouble getting a mortgage? We can help” and similar. Fly by night “mortgage brokers” assisted borrowers to get loans they could not afford by conspiring to submit false documents.

Fast forward to 2005 in the USA and instead of direct mail and leaflet drops, the fraudulent home loan market had discovered e-mail. In a feeding frenzy, lenders encouraged exactly the same types of low-start and self-certified mortgages that had fuelled the UK’s boom and utterly crushing bust in house prices. It didn’t take a genius to spot it; it took an idiot not to.

This type of scam was therefore a reaction to socio-economic conditions (borrowers making ill-informed decisions due to the fear of missing out) and also, because the housing market cannot rise for ever and when it doesn’t it falls hard) predictive of future problems.

And it has little to do with economics: it has to do with attitudes in society and that’s sociology and mass-psychology. It is fascinating that governments focus almost exclusively on economics while criminals focus almost exclusively on the manipulation of society and individuals within it.

By way of analogy: governments are interested in how many units of a particular product are sold; retailers are interested in how many customers can be brought in through the door and sold something, even if it’s not the product they first thought of.

It is the percentages that make the difference: for a bricks and mortar shop, they need a high percentage of walk-ins to buy something. There will always be browsers and always be shoppers. The job of the retailer is to convert browsers to shoppers and to encourage shoppers to buy more goods and, if possible, more goods with the highest margin which is, often, not the most expensive product. Supermarkets make more money out of, literally, bread and butter, than out of fois gras.

Therefore while wily shoppers will go to three or four shops buying the special offers and loss-leaders, it is the retailer’s job to seduce the shopper into over-riding that prudence and to buy the things that keep the lights on and the staff’s wages paid.

These considerations change online: online platforms take a fixed percentage and so they have an incentive to promote more expensive products. But they also have a far, far higher browsing rate than physical shops. It is widely said that “bounce rates” (that is the number of people who visit an on-line shop but buy nothing) are, typically, between 20 and 45%. Some industry commentators say that a bounce rate below 20% is extraordinarily good.

In the days of direct mail, there was a “10/10/10/10 rule”. This said that

of your initial mail-out, 10% would open it (the rest would bin it without opening it)

of those that opened it, 10% would read it properly (the rest would bin it before finishing it)

of those that finished it, 10% would respond (the rest would bin it after reading it).

of those that responded, 10% would purchase, although not necessarily purchase the product that attracted them. The rest would decline and, worse, get annoyed if a salesman tried to pressurise them which militates against the prospects of that person responding in future.

This explains all those “prize draws” and free gifts for responding as an attempt to increase these percentages.

Fun fact: for a while, my City office was at 7-10 Old Bailey. At least half of my UK readers will be amused at that 🙂

For those who haven’t worked it out, the “rule” (it isn’t, it’s a rough guideline) means that out of 1,000 letters individually printed and addressed and sent out by post, one person would reply and that only one in 10,000 would purchase something.

That is very, very poor economics. E-mail reduced the marginal cost of each solicitation from several pounds to so close to zero that it can’t be reliably measured.

And it expanded the reach from localised campaigns through national and regional campaigns to global.

Some are carefully targetted – so-called “spear-phishing” and some are entirely indiscriminate. Some fall in between – bots trawl internet domain registries for new registrations, locate the administration address, and spam it within hours of a domain being registered.

For this article, the scale is important because the purpose of the spam-scam is to respond to that fear of missing out, for example.

It follows that, while there is a reaction to economic conditions, the fraudster is manipulating social conditions. The primary target is, either someone encouraged to borrow money and therefore commissions will be earned (nothing to criticise if all dealings are legal and honest) or an advanced fee fraud (taking arrangement fees for loans that do not materialise).

But the evolution of risks means that secondary targets are becoming even more important, in some cases, than the apparently primary target.

Also, it is important to realise that such frauds indicate a systemic risk: if the housing market were not rising, frauds of this nature would fall because, in the normal course of events, it takes weeks for houses to be found and loans to be arranged and the market might collapse before such loans were completed. And criminals don’t like to waste their time, so they would move onto the next hook.

How do I recognise such frauds? Initially, by the simplest of all tools: the fraudsters send their mail to individuals worldwide, even when the service or product referred to is available in only a single market. There are, of course, additional factors that arise including stock expressions that, remarkably, have not changed significantly for a quarter of a century or more.

How do I work out the consequences? That’s based on years of knowledge, skill and experience which, as Greenspan admitted, while trying to excuse the US Fed’s failure, his analysts did not have in period leading up to the global financial crisis.