It seemed inconceivable that a well-trusted name with such a long pedigree of investing success was a fraud. But that was Bernard Madoff, the perpetrator of the biggest scam in Wall Street history.
A few weeks ago we had a look at Ponzi schemes, named after (if not invented by) Charles Ponzi and his postal reply coupons swindle. A century on from Ponzi, and with so much information available at our fingertips, we might have hoped people were wise to such schemes and they were impossible to get away with.
But despite the world of investing being such a high-profile one, and despite the existence of regulatory authorities that are supposedly there to wheedle out the crooks, the 21st century, still in its infancy, has already seen the biggest Ponzi scheme of all, and possibly the biggest ever Wall Street scam in history. It was perpetrated by one Bernard Madoff, and is currently thought to lost investors around $65 billion (yep, billion).
Trusted Wall Street investor
Bernard Madoff, former chairman of the NASDAQ stock exchange, and one of the most trusted names on Wall Street, founded Madoff Securities as long ago as 1960. The company started out as a legitimate and successful business, doing well for its clients over several decades. But Madoff wasn't one for humbly accepting market downturns and suffering with the rest. No, when tough economic times started to take their toll in the early nineties, Madoff still wanted to be seen to be bringing home the bacon for his clients when his competitors struggled. To achieve that he turned to fraud, and started claiming non-existent returns on his investments.
Madoff managed to keep it going until he was finally rumbled by several members of his own family, when they became suspicious of his plans to pay substantial staff bonuses several months early, and reported him to federal investigators.
It's a fair cop
When he was approached (and subsequently arrested) in December 2008, Madoff readily admitted that it was all a scam, that he was "finished" and owned "absolutely nothing", and that he knew it all had to come tumbling down eventually.
At the time, he had apparently been managing accounts for 4,800 clients. But the accounts were fake, and police also found a secret second set hidden away from his company offices detailing what was really going on. It seems that Madoff hadn't been investing any of his clients' money, but had instead been depositing it in his own Chase Manhattan business account and fabricating his accounts.
How did he get away with it?
Madoff evaded the truth for so long mainly because he was well trusted, was claiming modest but steady returns for a select set of very well-heeled clients rather than extravagant returns that would certainly have been suspected, and during a bull market people just didn't want their money out. And, using classic Ponzi tactics, those few who did want withdrawals were paid straight from the money deposited by others. As one client, who was swindled out of $3m, said, "The one thing my father always told me was 'Never sell your Madoff'".
While that attitude prevailed and his trusting clients didn't want their money out, Madoff was safe. But when the economic downturn came (and a downturn was sure to come some day), people would be wanting some of their money out. And as we now know, Madoff just didn't have it. Of the $65b owed to clients, he only had about $1b.
Suspicion
But even with so many trusting clients, there were suspicions raised as early as 1999, when independent fraud investigator Harry Markopoulos repeatedly warned the SEC that the returns Madoff was claiming were, in his opinion, impossible to achieve using Madoff's purported methods.
Markopoulos concluded that Madoff was either running a Ponzi scheme, or was engaging in illegal insider dealing on behalf of his clients. But even when Markopoulos finally submitted a 19-page report in 2005, The World's Largest Hedge Fund is a Fraud, The SEC still failed to take appropriate action.
Markopoulos was eventually awarded a silver whistle by the Boston Security Analysts Society for his efforts, but that wasn't of much comfort to his victims, at least one of whom subsequently committed suicide.
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