Bernard Madoff: Anatomy of Greed - Case Study Example

Bernard Madoff: Anatomy of Greed Abstract In December, 2008 the investment community and country at large were rocked by news that Bernard Madoff, founder of the Wall Street firm, Bernard L. Madoff Investment Securities LLC, was accused by the government of perpetrating the most massive Ponzi scheme on record, cheating thousands of unsuspecting investors—private citizens, the rich and famous, institutions, charities--out of billions of dollars and in many cases, their life savings. CBS news commentator, Morley Safer (2008), estimates the damage at $18 billion. (Safer, p. 1-4) Other estimates vary and are often significantly higher. Madoff himself estimates losses at 50 billion. (Security and Exchange Commission, 2008-293) Here we examine the nature of the scandal and the elements of the subsequent investigation that ended in the conviction of Madoff and the demise of his billion-dollar empire. To understand Madoff and his illegal practices it makes sense to begin with an example and explanation of exactly what is a Ponzi or “pyramid” scheme. The scheme takes the name of Charles Ponzi, an Italian born criminal who in the early 1900’s duped thousands of New England investors into putting money into a scheme involving international postage coupons. The coupons enabled recipients of mail in foreign countries to send replies back to the U.S. at no charge. With the huge number of immigrants seeking to keep contact with overseas relatives, investors flocked to the opportunity. But, as Blumenthal (2009) reports, some including Boston publicist William H. McMasters had their doubts. Blumenthal in the New York Times writes of McMasters. “...(McMasters) wrote a newspaper exposé in The Boston Post. The front-page article declaring that Ponzi was insolvent and had used incoming deposits to pay off earlier investors (and increase his own personal wealth) proved instrumental in unmasking him as history’s most infamous swindler — at least until Bernard L. Madoff came along” (Blumenthal, 2009). In simple terms Wikipedia (2009) provides a straightforward definition for the layman. “A Ponzi scheme is a fraudulent investment operation that pays returns to separate investors from their own money or money paid by subsequent investors, rather than from any actual profit earned” (Wikipedia, 2009). The system, because it does not actually invest money in the high-profit investments as promised, eventually collapses because the money to keep it going has disappeared. As happened in 2009, the world economy suffered extreme loses and monies that may have been coming in to offset fraudulent activities were no longer available. This, in essence, is what happened to Madoff, although he, unlike other Ponzi con men, successfully deluded investors, regulators and watchdogs for a much longer period of time. Anatomy of the Scandal Madoff, using his charm and positive reputation as a high end and powerful Wall Street player, convinced investors--many personal friends-- to give him their money to invest in the stock market and other vehicles with the promise of returns larger than normally expected. For over thirty years booming markets protected his scheme. While he was skimming millions from investors for his own personal use, no one was any the wiser; most were still making money on their investments, or so they thought. When in 2009 the economy went into serious recession, Madoff could no longer sustain the delusion. The Security and Exchange Commission (SEC) court complaint (2008) states in a press release the Madoff admission that he had committed fraud and that he could no longer sustain the myth. “Madoff...informed two senior employees that his investment advisory business was a fraud. Madoff told these employees that he was ‘finished,’ that he had ‘absolutely nothing,’ that ‘it's all just one big lie,’ and that it was ‘basically, a giant Ponzi scheme’” (U.S. Securities and Exchange Commission, 2008-293). Others, including the wife of Madoff and accountant David G. Friehling and his firm, Friehling & Horowitz, CPAs, P.C. (F&H) in his employ were also charged by the SEC. A 2009 SEC press release states the nature of the charge as “...committing securities fraud by representing that they had conducted legitimate audits, when in fact they had not” (Security and Exchange Commission, 2009-60). Causes and Effects of the Scandal: Greed, Incompetence and the Murky World of Wall Street We examine several opinions and perspectives as to what allowed Madoff to perpetrate and perpetuate his criminal activity. But the overriding opinion among many observers is that the driving force in this and any Ponzi scheme is greed—greed and political and financial industry complicity on the highest levels. One of the most intriguing factors in the case are the incestuous ties Madoff and his family had with the SEC, which has come under severe scrutiny. Javers and Lerer (2008) write on of Politico, “The SEC has come under criticism for not following up on tips that Madoff’s investment returns seemed suspicious” (Javers and Lerer, 2008, para. 5). Complicating suspicion, Javers and Lerer (2008) point out that the niece of Madoff, Shana Madoff Swanson, a compliance attorney with his firm, is married to one Eric Swanson. They describe Swanson as “...a former high-ranking Securities and Exchange Commission official...Swanson was the assistant director in the SEC Office of Compliance Inspections and Examinations’ market oversight unit in Washington” (Javers and Lerer, 2008, para. 3-4). While a defense of Swanson insists he was never in a position to influence investigations of Madoff, Gasparino (2008) in the Daily Beast suggests that “twisted loyalties” (Gasparino, 2008) played a role along with the murky inner workings of Wall Street trading practices in the SEC failure to expose Madoff. Gasparino (2008) writes, “Since the story of Bernard Madoff’s massive Ponzi scheme broke, a recurring theme has been shock over how Wall Street’s top cop—the Securities and Exchange Commission—missed so many red flags” (Gasparino, 2008, para.1). According to Gasparino (2008), despite protests to the contrary that relationships on the part of those involved were unusually close, it is a fact that Swanson sat on SEC Security Trade Association panels along with “Robert Colby, head of market regulation at the SEC, and Mark Madoff, Bernard’s son...” (Gasparino, 2008, para. 4). Gasparino (2008) writes and cites the SEC report that after he broke the story the SEC “launched an internal investigation on how the SEC dropped the ball, despite numerous ‘credible and specific allegations regarding Mr. Madoff's financial wrongdoing, going back to at least 1999, (that) were repeatedly brought to the attention of SEC staff, but were never recommended to the Commission for action’"(Gasparino, 2008, para. 5). While there is no direct evidence tying those mentioned to any wrongdoing, the web of Madoff influence in the form of lobbyists and personal and business associations that has grown up over the years gives pause. Few would deny that the steamrolling greed of the past few generations undoubtedly contributed to the actions of Madoff. While most charges of greed are aimed at Madoff, investors must also share that charge. It is hard to comprehend that they believed Mr. Madoff such a genius that he could pay out huge returns on their investments far beyond what everyone else was getting at the time. They’re greed, perhaps, blinded them to reality. While some investors may or may not have been aware of such discrepancy, others, more sophisticated, must have realized this and thought at least once about why the returns from Madoff were so high, and what he himself was gaining. A quote from Madoff appears on Woopido. “The nature of any human being, certainly anyone on Wall Street, is 'the better deal you give the customer, the worse deal it is for you'” (Bernard Madoff quote, Woopido Quotations). Civil Litigation As might be expected, a plethora of civil suits at home and abroad have been filed by investors in the case. Brian Baxter (2009) posting on the American Law Daily reports from several sources on the latter issue. French financial services firm Oddo et Cie filed suit against Zurich-based UBS in the District Court of Luxembourg, seeking to recover an estimated $40 million that the Swiss banking giant lost in investments with Madoff…The Associated Press reports that UBS could also soon face another suit brought by litigation partner Marc Hassberger of Geneva's Chabrier & Partners… on behalf of clients with losses in a $1.4 billion fund managed by UBS but linked to Madoff. (Management of the fund was later transferred to Access International Advisors, whose 65-year-old founder, Frenchman Rene-Thierry Magon de la Villehuchet,committed suicide in New York… (Baxter, 2009, para. 7-9). A summary of an IFAwebnews online (2009) report states that at home, a group of investors that lost $3.3 billion filed 18 civil suits against Massachusetts Mutual Life Insurance Co., saying the insurer should cover the losses of its hedge fund group, alleging Mass Mutual benefited from its profits in other times, it should thus suffer its losses. The hedge fund suffered the second-largest loss in the Madoff scandal with New York Fairfield Greenwich Advisors taking first place at $7.5 billion. (IFAwebnews, 2009, para. 1-4) The issue is investors want their money, or some of it, at least, back. In order to accomplish this they may file a civil suit which defined means a civil action brought before a court in which a party (plaintiff), in this instance, investors, claim to have received damages from a defendant's actions and seek legal or equitable remedy. In the instance of the Madoff scandal, with its complex and murky trail of offenses and who is to blame, actions can be filed by corporations, public or private entities, or any groups or individual who believe they have been wronged and lost money as a result. As one might imagine, given the magnitude and extent of the fraud, the list of these suits now and in future is sure to be endless. The remedies, if any, may take years to secure, if secured at all. The SEC itself has, among other civil actions, filed civil fraud suit against several individuals and groups, including a California based money manager they say funneled investor money to Madoff that fueled his illegal activities. (SEC v Stanley Chais, Summary, 2009) In the brief summary, the SEC (2009) charges that the defendant duped clients by presenting himself as “an investing wizard” (SEC v Stanley Chais, Summary, 2009) when in actuality he was not, and “did nothing more than turn all of those investors’ assets over to Bernie Madoff” (SEC v Stanley Chais, Summary, 2009). All of the suits seek to recover billions of dollars the reality of which seems fairly remote given the complex nature of the paper and money trails. Liabilities and Remedies Given what is presented above, the determination of who is liable in terms of the actual fraud versus those who, in generic terms, should have known better will not be easy. Remedies will also undoubtedly depend upon the courts, the degree of culpability of defendants, and their role in the scandal. To trace the investments through the global market chain will be difficult to impossible in many instances; the determination of exactly how much is owned to each claimant another difficult matter. Generally, liabilities held against Madoff and others suggest they not only deliberately defrauded investors but that some, while unaware of the deceit, are liable nonetheless. Liabilities are clearly what responsibility a defendant has to do the right thing, with civil suits challenging the notion that the defendant held up his or her part of the legal bargain. In the Madoff case, regulatory liability plays a crucial role. Morrissey (2009) in her Time article suggests that an internal SEC investigation while chiding the agency for its poor handling of the situation, stopped “well short of declaring the SEC liable” (Morrissey, 2009, para. 2). Nonetheless, several suits have been filed since then on behalf of private clients. Morrissey (2009) quotes attorney Howard Elisofan who is handling one such case. “We're arguing that the SEC was negligent on multiple occasions for many reasons over multiple years, and had they detected the fraud a long time ago, thousands of people would not have been so gravely injured..." (Morrissey, 2009, para. 4). It seems logical to assume that other regulatory suits will follow charging that at minimum, the SEC was “asleep at the wheel” and thereby liable. There is, however, significant liability to go around, and the SEC is not the only target. Speaking in The National Law Journal, Epstein and Ohlms (2009) focus on auditor responsibility in the scandal, appropriate in light of eventual charges filed against the Madoff auditors. “If true even remotely as reported, the Madoff affair is bound to raise fundamental questions about auditor liability, going far beyond the apparent issue of regulatory failure” (Epstein and Ohlms, 2009, p. 1). The writers place the onus of responsibility, blame or liability squarely on the auditors, who, in many instances, also handled the investment accounting for many big Madoff investors, suggesting possible collusion. Epstein and Ohlms (2009) write, "Given the staggering losses being claimed, there will be predictable efforts to place blame on various intermediaries...auditors and accountants whose work was relied upon by the aggrieved parties” (Epstein and Ohlms, 2009, p.1). Conclusion On June 29, 2009 Madoff was sentenced to the maximum 150 years in prison (New York Times, 2009), thus ending a career of fraud and deception that had gone on for nearly 30 years. This may be small consolation for victims, many of whom have lost their life savings, their homes even. So many other organizations—foundations and charities—will no longer support worthy causes so many relied on. Law suits by the hundreds undoubtedly will be filed, making attorneys if not their clients, rich. Investigations into those who may have been involved in the scheme are ongoing. Many Madoff assets have been turned over to the government and the Madoff investor payback fund is growing. As of May, 2009 Kate McCarthy of ABC reports that “more than 200 investors…are one step closer to receiving their money back” (McCarthy, 2009, para. 1) from the Security Investors Protection Corporation (SIPF), a small portion indeed of the 9,000 claims filed with the agency. How many and who will eventually be caught up in the criminal net is unknown. Amounts of compensation in investor losses are yet to be determined. It will be some time before this complicated web of financial intrigue is sorted out; perhaps never. And while Bernard Madoff may have received just punishment, the extent of criminal collusion on the part of others may never been known, as the titans of Wall Street march on in their quest for ultimate profits at any cost. References Baxter, Brian. (January 13, 2009, 7:03pm). Madoff mania: Swiss suits, spanish prosecutors, and possible pleas. The American Law Daily. http://amlawdaily.typepad.com/amlawdaily/2009/01/madoff-mania-swiss-suits- spanish-prosecutors-and-possible-pleas.html Blumenthal, Ralph. (May 4, 2009). Lost manuscript unmasks details of original Ponzi. New York Times. http://www.nytimes.com/2009/05/05/nyregion/05ponzi.html Epstein, Barry Jay & Ohlms, Todd J. (Monday, January 6, 2009). The Madoff matter: Auditor responsibility. The National Law Journal. http://www.freebornpeters.com/docs/publications/The%20Madoff%20Matter%20 -%20NLJ%202008%2001%2026.pdf Gasparino, Charlie. (December 16, 2008 11:35pm). How the SEC got in bed with the Madoff’s. Literally. The Daily Beast: Blogs and Stories. http://www.thedailybeast.com/blogs-and-stories/2008-12-16/how-the-sec-got-in- bed-with-the-madoffs-literally/full/ Healy, Jack. (June 29, 2009). Madoff sentenced to 150 years for Ponzi scheme". The New York Times. http://www.nytimes.com/2009/06/30/business/30madoff.html?_r=1&hp. IFAwebnews. (April 21, 2009). Investors sue MassMutual over Madoff losses by its hedge fund. http://ifawebnews.com/2009/04/21/investors-sue-massmutual-over-madoff- losses-by-its-hedge-fund/ Javers, Emon & Lerer, Lisa. (12/16/2008 4:43 am). Madoff bought influence in Washington. Politico. http://www.politico.com/news/stories/1208/16608.html Madoff, Bernard. Woopidoo Quotations. http://www.woopidoo.com/business_quotes/authors/bernard-madoff/index.htm McCarthy, Kate. (May 27, 2009). Payback time: Madoff compensation fund is growing. ABC News. http://www.abcnews.go.com/Blotter/story?id=7687738&page=1 Morrissey, Janet. (Thursday, September 3, 2009). After its Madoff report, can victims sue the SEC? Time. http://www.time.com/time/business/article/0,8599,1920323,00.html    Safer, Morley. (September 27, 2009). The Madoff scam: Meet the liquidator". 60 Minutes (CBS News): p. 1-4. http://www.cbsnews.com/stories/2009/09/24/60minutes/main5339719.shtml?tag= currentVideoInfo;segmentUtilities. SEC v Stanley Chias. (2009). Civ, 5681. Civil Suit (Complaint). United States District Court Southern District of New York. http://www.sec.gov/litigation/complaints/2009/comp21096.pdf U.S. Securities and Exchange Commission. (2008). SEC charges Bernard L. Madoff for multi-billion dollar Ponzi scheme. Press Releases: 293; 60. http://www.sec.gov/news/press/2008/2008-293.htm Wikipedia. (October 9, 2009). Ponzi scheme. (Creative Commons Attribution- ShareAlike License). http://en.wikipedia.org/wiki/Ponzi_scheme Read More