- On December 12, 2008, the Wall Street Journal headlined:
"Top Broker Accused of $50 Billion Fraud. Bernard L. Madoff....was
arrested by federal agents (the previous day) after his sons turned him
in for running what they said their father called a giant Ponzi scheme."
-
- Too late to matter, the SEC, in a civil complaint, cited
an ongoing $50 billion swindle in asking a judge to seize the firm and
its assets. "Our complaint alleges a stunning fraud that appears
to be of epic proportions," according to Andrew Calamari, SEC's New
York associate director of enforcement who was derelict in his duty since
being appointed on November 14, 2004 after joining the agency in 2000.
-
- In a separate criminal complaint from an equally derelict
agency, the FBI's Theodore Cacioppi said Madoff "deceived investors
by operating a securities business in which he traded and lost investor
money, and then paid certain investors purported returns on investment
with the principal received from other, different investors, which resulted
in losses of billions of dollars."
-
- Quotes from two Madoff employees were part of the complaint
saying that he ran the investment business on a separate floor, kept
financial statements under lock and key, and was "cryptic" about
the firm's dealings. The two employees were unnamed but were believed
to be Madoff's two sons, Andrew (the company's director of trading) and
Mark (its senior managing director and compliance officer).
-
- According to Mr. Cacioppi, Madoff told him and another
agent: "There is no innocent explanation (and that he) paid investors
with money that wasn't there," said he was "broke," and
decided "it could not go on."
-
- He was arrested, charged in federal court with criminal
securities fraud, didn't enter a plea, was released on $10 million bond,
and placed under 24-hour house arrest in his luxury Manhattan apartment.
A preliminary hearing is scheduled for January 12.
-
- On May 7, 2001, Barron's ran an Erin Arvedlund article
titled: "Don't Ask, Don't Tell" that expressed doubts about
Madoff's spectacular performance. Year in and year out, in up markets
and down, he produced average annual compounded 15% returns or more for
over a decade, and some of his larger multi-billion dollar-run funds
never had a down year. Needless to say, he attracted investors who raved
about him.
-
- Not ordinary ones nor would Madoff accept any. His firm
Bernard L. Madoff Investment Securities LLC operated as a securities broker/
dealer globally. It was headquartered in New York and provided executions
for broker-dealers, banks, and financial institutions. He was also one
of the world's largest hedge fund managers, handling billions of dollars
for a select clientele.
-
- According to National Association of Securities Dealers'
(NASD) records as of November 17, he had about $17.1 billion under management.
On December 22, Bloomberg reported that loss calculations are still being
tabulated, and its latest tally showed investors had about $36 billion
with his firm. On December 11, Madoff told employees that he may have
cost his clients $50 billion, according to the FBI complaint.
-
- At least half of his clients were other hedge funds.
The rest was a who's who of high net worth individuals, banks, pension
funds, universities, charities, insurers, other money managers, New York
and other synagogues, and the Palm Beach Country Club he belongs to -
if it'll keep him or if he can afford the dues after being stripped of
his assets.
-
- Some notable investors include:
-
- -- HSBC Bank
-
- -- Bank Medici of Austria
-
- -- Royal Bank of Scotland
-
- -- Royal Bank of Canada
-
- -- Fairfield Sentry Ltd.
-
- -- Sumitomo Life Insurance Co.
-
- -- UBS Bank
-
- -- BNP Paribas
-
- -- sovereign wealth funds
-
- -- Sterling Equities, Inc run by New York Mets owner,
Fred Wilpon
-
- -- Yeshiva University
-
- -- Tufts University
-
- -- Hadassah
-
- -- the Thyssen family
-
- -- Senator Frank Lautenberg
-
- -- Jeffrey Katzenberg
-
- -- the (Eliot) Spitzer family
-
- -- Liliane Bettencourt, heiress to the L'Oreal empire,
called the world's wealthiest woman, number 17 on the Forbes 2008 list
of the world's richest people
-
- -- charities set up by Steven Spielberg, Mortimore Zukerman
and Elie Wiesel
-
- In total, over 4000 investors who, according to legal
experts, may end up losing everything. As explained above, tallying the
damage continues, and according to Madoff, it's around $50 billion.
-
- Even sophisticated people lose out when they forget the
old rule that if something looks too good to be true, most likely it is
- especially in investing. Caveat emptor is key, but Madoff's clientele
wanted none of it. Who can argue with success even though for many it
was baffling. More on that below.
-
- Nonetheless, his faithful reckoned that he was well respected.
He'd been in business since 1960, served as vice-chairman of the NASD,
was a member of its board of governors, and chairman of its New York
region. He also chaired the Nasdaq's board of governors, served on its
executive committee, and was chairman of its trading committee.
-
- In addition, he was chief of the Securities Industry
Association's trading committee in the 1990s and earlier this decade when
he represented brokerage firms in discussions with regulators about new
stock market trading rules.
-
- In business for nearly 50 years, his web site highlighted
the "high ethical standards" of his firm. It stated:
-
- "In an era of faceless organizations owned by other
equally faceless organizations, Bernard L. Madoff Investment Securities
LLC harks back to an earlier era in the financial world: The owner's
name is on the door. Clients know that Bernard Madoff has a personal interest
in maintaining the unblemished record of value, fair-dealing, and high
ethical standards that has always been the firm's hallmark."
-
- He'll now defend that "hallmark" in US v. Madoff
in US District Court for the Southern District of New York.
-
- Early in December, he confessed to his sons that he ran
"a giant Ponzi scheme," but unlike its originator (Charles Ponzi
(1882 - 1949) did it globally. It's a pyramid scheme based on high promised
returns (for Charles short-term ones), that require continued new investor
funds to keep it going. If they slow or stop, the jig is up, and that's
what happened to Madoff.
-
- According to the Wall Street Journal, he suffered reversals
in the recent market turmoil, chose not to tell investors, gambled on
a rebound, assumed a high-risk strategy, and lost. It got worse as hedge
fund redemptions increased ($7 billion according to the FBI complaint).
He had trouble meeting them (he told his son) as new investor money dried
up, finally stopped trying, confessed, called his business a fraud, "all
a big lie," and said he was "finished" because the firm
was insolvent.
-
- Since the bull market ended in 2000, more people and
the press began asking questions. Until recently, how could he prosper
when so many others hit hard times. Madoff was secretive, abhored monitoring,
and wasn't even registered with the SEC until September 2006. Nonetheless,
early on, the agency was alerted that he was running a scam and did nothing.
-
- In a December 22 Matt Renner Truthout article, former
SEC criminal investigative lawyer Gary Aguirre spoke out and pointed fingers.
He mentioned how his supervisor quashed his own attempt to subpoena Morgan
Stanley's CEO John Mack in connection with his probe into possible insider
trading by Pequot Capital Management, a prominent hedge fund.
-
- He explained that as an investment advisor, the SEC had
regulatory authority over Madoff. Yet after repeated complaints (over
nine years) about a Ponzi scheme fraud, nothing was done to investigate.
He speculated why:
-
- -- perhaps "personal links" between him and
SEC staff;
-
- -- a reluctance to "apply the securities laws to
the big players, to Wall Street's elite;" they only go after small
fry;
- -- Washington's revolving door culture in all government
agencies that allow officials to "rotate out to the private sector
and earn more money;" but from the SEC, it's for much higher salaries
so a manager making $200,000 can jump to $2 million on the outside, provided
"they play the game;" and, of course,
- -- the unregulated climate since the Reagan era, under
Democrats and Republicans, with little expected change under Obama.
-
- The fox guards the hen house. The SEC failed dismally
in its mandate. One bank failed after another. All the majors are insolvent.
Given the magnitude of the problem, "you have to ask yourself, how
could anybody miss the red flags...." In addition, the common practice
of market manipulation and insider trading made Wall Street feel it was
invulnerable. It still does even in the current environment, with suggestions
of more criminal fraud to be uncovered, and Madoff now exposed as a swindler.
-
- It's for the courts to handle him criminally and to process
the dozens of lawsuits to follow.
-
- James Petras on Madoff
-
- James Petras wrote a jewel of a Madoff article titled:
"Bernard Madoff: Wall Street Swindler Strikes Powerful Blows for
Social Justice." He explained 11 reasons to give thanks given the
type of clientele he attracted and how some use their wealth.
-
- They practically "forced their money on (him)."
Nonetheless, he "insisted they have recommendations from existing
investors, deposit a substantial amount and guarantee their own solvency.
Most considered themselves lucky to" be with him. His "standard
message was that the fund was closed....but because they came from the
same world (as himself) or were related to a friend, colleague or existing
clients, he would take their money."
-
- Petras listed the similarities with other high-level
scams:
-
- -- "constant high returns;
-
- -- unmatched by any other broker;
-
- -- a lack of third party oversight;
-
- -- a backroom accounting firm physically incapable of
auditing the multi-billion dollar operation;
-
- -- a broker-dealer operation directly under his thumb;
and"
-
- -- an atmosphere of total secrecy he insisted on - "Don't
Ask, Don't Tell;" more on that below.
-
- Michael Hudson on Madoff and Ponzi
-
- Hudson cuts through the fog on economics and finance
and provides relevant historical perspective - currently in his latest
article titled "Wealth Creation, or a Ponzi Scheme?" He explains
how "financial cycles end in Ponzi schemes" with Madoff one
example among many. "What (he) did was, in a nutshell, what the economy
as a whole has been doing under the moniker (of) 'wealth creation.' "
From that perspective, Madoff's scheme was pocket change, but try finding
that said in the dominant media.
-
- He and Charles Ponzi sold "hope, pandering to peoples'
unrealistic desire to believe that a new way to make easy gains had been
discovered, with no visible upper limit (on how long they) can persist
in excess of the economy's own rate of growth."
-
- Hudson explains that governments are instrumental in
creating bubbles. They "need to be orchestrated by opinion makers,
topped by public officials giving a patina of confidence." Alan Greenspan
was America's lead "bubblemeister" much like Robert Walpole
was for Britain during the early 18th century South Sea Bubble, and the
same story is repeated throughout history.
-
- "Today's balance sheets confuse bubble wealth with
real capital formation" so that "investments (are what) accountants
say they are." The same holds for "asset and debt values, given
today's leeway for financial fiction." As a result, financial dealings
became "decoupled from the 'real' economy." We live in a world
of illusions. Media touts, government spokespeople and Fed chairmen effectively
sell them, and everything works well until it doesn't.
-
- Hudson shows how different "the actual economy is
from what economic textbooks (and classical Adam Smith economics) teach.
The recent stock market and real estate bubbles are much like pyramid
schemes...." Money pours in from pension plans, mutual funds, and
bank credit for real estate to bid up prices.
-
- Something is terribly wrong. Value is divorced from "price,
windfall and capital gains as distinct from earned income." Also,
"market prices rise and fall," but debt remains. When it can't
be repaid, "savings are wiped out" much like today.
-
- "Instead of reducing the debt overhead by earning
their way out of (it), economies (like America) have sought to inflate"
as a way to do it - but not by the conventional inflation of creating
higher prices and wages. It's by "asset-price creation," and
America took the lead in doing it.
-
- After Nixon closed the gold window in 1971, "The
US economy (became) unique in being able to create credit and foreign
debt" with no limit. The result has been "unparalleled"
debt growth "relative to income, production and wages."
-
- Madoff is one actor (a bit player) in a greater scheme
with government in the lead role. It "replaced industrial growth
with purely financial wealth creation in the form of a real estate, stock
market" and other asset class bubbles. Classical economics got turned
on it head. Losses since mid-2007 are off the charts - at least $7.7 trillion
and rising from real estate, financial assets, life insurance and pension
fund reserves. Trillions more disappeared earlier - at least $4 trillion
from 1998 - 2002, more still from "pump and dump" schemes, plus
countless billions from foreign wars and huge amounts of waste, fraud
and abuse, all down a black hole and unaccounted for.
-
- The financial system alone accounts for many lost trillions.
As Hudson puts it: "Property and credit have become costs instead
of a benefit, institutional forms of rent and interest-extracting overhead
rather than helpful inputs." Things reached their mathematical limits.
The economy is in free fall. Contagion is spreading globally. An economic
dark age approaches, and ordinary Americans now suffer for their government's
(and Wall Street's) crimes with no end of pain in sight. Madoff just played
the game until he gave it up when his operation collapsed. When the government
collapses, we print more money. When it happens to Wall Street, we give
it to them.
-
- When homeowners are foreclosed, workers laid off, sick
people aren't treated, poverty and hunger increase, homelessness reaches
record levels, and the American dream becomes a nightmare, no help like
that is forthcoming.
-
- Madoff will be prosecuted in federal court. He was charged
with one count of securities fraud that carries a maximum 20 year sentence
and $5 million fine. Because of his influence and connections, expect
much less than that, incarceration (if any) in a minimum security ("country
club") prison, and after the commotion subsides, a quiet early release
or eleventh-hour Marc Rich-type pardon.
-
- Compare that to the mandatory minimum five year hard
time sentence for possessing five grams (less than one-fifth of an ounce)
of crack cocaine - harming no one but the person involved, usually a
black teenager. For 50 grams (less than two ounces), it's ten years hard
time - no reprieves, early releases, eleventh hour pardons, or judicial
fairness for persons with no influence or connections.
-
- Madoff Actively Bought Influence
-
- According to the Center for Responsive Politics, "Madoff
and Company Spent Nearly $1 Million on Washington Influence." He
and his wife Ruth gave $238,200 to federal candidates, parties, and committees
since 1991. Democrats got 88% of it.
-
- Overall, he and others at his firm gave $372,100 in campaign
contributions since 1991, 89% to Democrats. The company also spent $590,000
on lobbying over the same period, all but $10,000 with Lent, Scrivner
& Roth.
-
- Those in Congress he contributed to included:
-
- -- Senator Charles Schumer
-
- -- Senator Hillary Clinton
-
- -- Senator Christopher Dodd,
- -- Rep. Charles Rangel, and others
-
- He also gave $102,000 to the Democratic Senatorial Campaign
Committee.
-
- Madoff - "The anti-Semite's new Santa"
-
- That's according to Bradley Burston in his December 17
Haaretz article headlined: "The Madoff betrayal - Life imitates anti-
Semitism." Christmas came early this year in the form of Bernard
Madoff. He's the "answer to every Jew-hater's wish list. The Aryan
Nation at its most delusional couldn't have come up with anything to
rival this."
-
- Burston is a bit over the top, but The New York Times
spells out what he means in a December 23 Robin Pogrebin article titled:
"In Madoff Scandal, Jews Feel an Acute Betrayal." Throughout
the country, they're "sending up something of a communal cry over
a cost they say goes beyond the financial to the theological and the
personal." After all, the Ten Commandments teaches - "Thou shalt
not steal."
-
- But here's "a Jew accused of cheating Jewish organizations
trying to help other Jews....of betraying the trust of Jews and violating
the basic tenets of Jewish law. A Jew, they say, who seemed to exemplify
the worst anti-Semitic stereotypes of the thieving Jewish banker."
-
- According to Rabbi David Wolpe of Sinai Temple, Los Angeles,
"I'd like to believe someone raised in our community, imbued with
Jewish values, would be better than this." Is that his concern, or
perhaps something else?
-
- Many Jewish charities, educational institutions, and
other organizations representing Jewish and Israeli interests lost fortunes
in the scandal. The Jewish Community Centers Association of North America
for one, and the Chais Family Foundation that had to shut down its educational
projects in Israel.
-
- According to Rabbi Jeremy Kalmanofsky of Temple Ansche
Chesned, New York, "The Jewish world is not going to be the same
for a while." For Rabbi Burton Visotzky of the Jewish Theological
Seminary: "The fact that he stole from Jewish charities (emphasis
on "Jewish") puts him in a special circle of hell." Unstated,
but perhaps implied, is it's OK to steal from "goyim" or at
least not as bad.
-
- The Anti-Defamation League (ADL) went further. It stated
that Madoff's arrest prompted an outpouring of anti-Semetic comments on
web sites around the world, one calling Madoff "an ideal poster
boychick" for this kind of thievery with others much less nuanced
in their postings. ADL's director Abraham Foxman (well known for his
bigotry and hypocrisy) said "Jews are always a convenient scapegoat,
and the fact that so many of the defrauded investors are Jewish created
a perfect storm for the anti-Semites."
-
- In contrast, "Rabbi without borders" Jennifer
Krause makes the most sense by viewing the scandal "in the much greater
context of a human drama that is playing out in sensationally terrible
ways in America right now. The Talmud teaches that a person who only looks
out for himself and his own interests will eventually be brought to poverty.
Unfortunately, this is the metadrama of what's happening in our country
right now. When you have too many people (who only care about themselves
and not others), we're (all) brought to poverty."
-
- Perhaps Mr. Foxman took note - a man known for his antipathy
to Islam, disdaining Palestinians, and praising the convictions of innocent
Muslims under American kangaroo court justice.
-
- Barrons Suspicions in 2001
-
- At a 1999 New York hedge fund conference, Madoff got
lavish praise from those on the Street who knew him. After its 1971 founding,
his brokerage firm helped "kick-start the Nasdaq....in the early
1970s and (became) one of (its) top three market-makers....(It also became)
the third-largest firm matching buyers and sellers of New York Stock Exchange-listed
securities."
-
- In addition, he managed billions for private investors
and performed spectacularly as described above. "When Barrons asked
(him) how he (did it), he (said), 'It's a proprietary strategy. I can't
go into it in great detail."
-
- One of his hedge-fund-offering memoranda described the
strategy this way:
-
- "Typically, a position will consist of the ownership
of 30 - 50 S & P 100 stocks, most correlated to that index, the sale
of out-of-the- money calls on the index and the purchase of out-of-the-money
puts on the index. The sale of the calls is designed to increase the
rate of return, while allowing upward movement of the stock portfolio
to the strike price of the calls. The puts, funded in large part by the
sale of the calls, limit the portfolio's downside."
-
- Options traders call this a "split-strike conversion"
strategy. Simply put, it means Madoff apparently invested mainly in the
largest S & P stocks. At the same time, he bought and sold offsetting
options on them, to buy and sell shares at a fixed price on a future date.
"The strategy, in effect, create(d) a boundary on a stock, limiting
its upside, while at the same time protecting against a sharp decline"
in its share price. In theory, when it works, it's a market-neutral strategy
for positive returns no matter which way the market goes.
-
- It got some on the Street wondering if "Madoff's
market-making operation subsidize(d) and smooth(ed) his hedge-fund returns."
Why would he do it? Because with access to a huge capital base, he could
make larger bets with less risk. It works like this:
-
- "Madoff Securities (stood) in the middle of a tremendous
river of orders, which means that its traders (had) advance knowledge,
if only by a few seconds, of what the big customers in the market (were)
buying and selling. By hopping on the bankwagon, the market- maker effectively
lock(ed) in profits. As such, throwing a little cash back to the hedge
funds (was) no big deal. And the funds' consistent returns attract(ed)
more capital. When Barron's ran that scenario by Madoff, he dismissed
it as 'ridiculous.' "
-
- Nonetheless, some on the Street "remain(ed) skeptical
about how (he) achieve(d) such stunning double-digit returns using options
alone. Three option strategists for major investment banks" didn't
believe it, and one of his former investors said: "Anybody who's
a seasoned hedge-fund investor knows that split-strike conversion is
not the whole story."
-
- More puzzling was that he charged no money-management
fees, including for his private accounts. When asked to explain, he said
"We're perfectly happy to just earn commissions on the trades."
-
- Even so, no one understood his strategy, even people
"who have all the trade confirms and statements." One happy
investor added: "The only thing I know is that he's often in cash"
when volatility gets extreme. The person refused to be identified because
"Madoff politely request(ed) that his investors not reveal that he
(ran) their money."
-
- He said: "If you invest with me, you must never
tell anyone" that you're doing it. "It's no one's business what
goes on here." According to an investment manager of an asset pool
with money in a Madoff fund: "When he couldn't explain (to me) how
(he was) up or down in a particular month, I pulled the money out."
When they had the chance, his investors wish they had as well. Hindsight
teaches painful lessons.
-
- Whisleblower Harry Markopolos on Madoff
-
- It's a 21-page November 7, 2005 document to the SEC on
the Wall Street Journal's web site explaining that "The World's Largest
(Madoff-run) Hedge Fund is a Fraud." He collected "first-hand
observations" from fund-of-fund Madoff investors and from heads of
Wall Street equity derivative trading desks. Every senior manager said
"Bernie Madoff was a fraud."
-
- Markopolos himself is a "derivatives expert"
with experience following the strategy Madoff used. He said "Very
few people (anywhere) have the mathematical background needed to manage
these types of products," but he's one of them. He outlined a list
of "Red Flags" that made him suspicious that "Madoff's
returns (weren't) real." Because careers and his own safety were
on the line, his report was unsigned. He wrote it solely for internal
SEC use. He suggested the "highly likely" possibility that "Maddof
Securities is the world's largest Ponzi Scheme," but he worried
about his powerful political connections.
-
- Markopolos listed 29 Red Flags. Below is a sampling:
-
- -- why would Madoff Securities (BM) charge only undisclosed
commissions on trades and not operate like other hedge funds - taking
a 1% management fee + 20% of the profits;
-
- -- why does Madoff not let hedge and fund of fund investors
mention his firm's name in their performance summaries or marketing literature;
why the secrecy; any money manager with great returns should want all
the publicity he or she could get;
-
- -- Madoff's split-strike strategy was inferior to an
"all index approach" and "incapable" of consistently
generating high returns; "BM's strategy should not be able to beat
the return on US Treasury bills due to" its glaring weakness;
-
- -- BM's protection "put" option buying strategy
hurts returns; it should have challenged him to earn average 0% ones,
not the spectacular performance he achieved;
-
- -- given the estimated size of his assets, "there
(weren't) enough index option put contracts in existence to hedge the
way BM" claimed; his strategy was mathematically impossible;
-
- -- counterparty credit exposures for firms like UBS and
Merrill Lynch were too large for these companies to approve;
-
- -- BM's high returns could only be generated by so-called
"front- running" his customers' order flows by using advance
information unavailable to others; the practice is illegal and those using
it are guilty of securities fraud.
-
- Markopolos concluded as follows:
-
- "I am pretty confident that BM is a Ponzi Scheme,
but in the off chance he is front-running orders and his returns are real,
then this case qualifies as insider trading under the SEC's bounty program
as outlined in Section 21A(e) of" The Securities Exchange Act of
1934 establishing the agency. "However, if BM was front- running,
a highly profitable activity, then he wouldn't need to borrow funds from
investors at 16% implied interest. Therefore it is far more likely that
(he was) a Ponzi Scheme....The elaborateness of (his) secrecy, his high
16% average cost of funds, and reliance on a derivatives investment scheme
that few investors (or regulators could comprehend provide strong evidence)
that this (was) a Ponzi Scheme," and Madoff was a swindler.
-
- In May 1999, Markopolos alerted the SEC's Boston office
of his suspicions, urged it investigate Madoff, and followed up with
repeated futile requests until the New York office (on January 4, 2006)
got involved, based on his allegations, according to the Wall Street Journal.
-
- The SEC learned plenty but didn't act. It discovered
that:
-
- -- Madoff personally "misled the examination staff
about the nature of his" Fairfield and other hedge fund accounts
strategy;
-
- -- he failed to inform his Fairfield funds investors
that he was the investment advisor; and
-
- -- he violated rules requiring that investment advisors
register with the SEC; they must do so if they have more than 15 clients.
-
- Using Markopolos' documents, SEC also investigated his
allegations of front-running and Ponzi scheme practices, concluded they
weren't substantiated, and recommended closing the case because Madoff
"agreed to register his investment advisory business and Fairfield
agreed to disclose information about Mr. Madoff to investors." It
justified its action saying that the "violations (it uncovered)
were not so serious as to warrant an enforcement action" - clearly
due diligence negligence to give a Wall Street insider a free pass and
very typical of how SEC operates.
-
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