The bug is actually down inside the device. The two bowls that make the upper and lower parts are curved mirrors, designed so that the upper mirror reflects any light arriving from the bug straight down, and the second redirects it to go out the hole at the top, in such a way that all the light rays come back together. Then you see light coming from this "image" no matter from what direction you are viewing it. What you mean by "I see the bug there," is that light is coming from that place; so you seem to see a bug at the image point.

The mirror is plastic, and is easy to damage. People like to drop coins into this device, because it gives a nice effect of money you can't take, but they will scratch the mirror. Encourage them to use $5 bills, instead.