Why Wasn’t Madoff’s Alleged $50B Ponzi Scheme Discovered Earlier?
Posted Dec 16, 2008 1:25 PM CDT
By Martha Neil
After staggering news last week that the longtime head of a respected Wall Street investment firm had allegedly been running a massive $50 billion Ponzi scheme under the guise of a hedge fund for years, there has been fallout on many fronts.
As victims lawyer up, both the Securities and Exchange Commission and the accountant that audited the books of Bernard Madoff's firm are being scrutinized:
The SEC did look into the firm a few times, and Sen. Christopher Dodd (D-Conn.), who chairs the Senate Banking Committee, wants an explanation of why the federal securities watchdog failed to spot such a massive fraud, reports Bloomberg.
Meanwhile, the small accounting firm, Friehling & Horowitz, that audited Madoff's firm is under investigation by a suburban New York district attorney, according to a Bloomberg columnist.
Although an alleged scheme billed as the biggest financial fraud in world history wasn't detected either by these watchdogs or many sophisticated investors who put substantial amounts of their own money into Bernard L. Madoff Investment Securities, some others who looked into the firm saw red flags.
Among them, the Aksia hedge fund investment adviser warned clients to stay away when it saw a three-person accounting firm was auditing the Madoff’s firm's reported $17.1 billion in assets, writes Bloomberg columnist Ann Woolner. And other red flags were raised by the firm's investment strategy, which "seemed implausible" when the extent of the options trades allegedly being made by the Madoff firm were considered in light of the known scope of the S&P options market, Aksia's James Vos and Jake Walthour explained last week, reports the Wall Street Journal (sub. req.).
The Boston Globe also reports that Frank Casey, vice president of marketing for Rampart Investment Management in Boston, came back from a 1999 visit to New York unimpressed with Madoff's reported investment system. His report to Rampart prompted a colleague to look into the issue further, and eventually complain to the SEC about Madoff, the newspaper writes.
However, the situation came to light only after Madoff, apparently on the verge of running out of funds in the midst of a disastrous economy, reportedly told his two sons about the alleged fraud and calculated client losses at $50 billion.
After hearing their father's claimed confession, both Andrew and Mark Madoff—who held senior positions at the firm along with their paternal uncle, Peter Madoff, who served as general counsel—called a friend, Martin Flumenbaum, who is a partner at Paul Weiss Rifkind Wharton & Garrison, recounts the New York Times. Flumenbaum then alerted the SEC and federal prosecutors.
Madoff reportedly has said his relatives knew nothing about the fraud, and they have been cooperating with authorities, the Times writes. At least one also had a substantial amount of personal funds invested in the failed hedge fund.
The Madoff firm is now in liquidation ordered by a federal judge at a the request of the Securities Investor Protection Corp., the WSJ article notes, and it appears that its convoluted finances won't be untangled anytime soon. (Attorney Lee Richards of Richards Kibbe & Orbe was appointed as a receiver Dec. 12, notes the Madoff firm's website, which attaches a copy of the Manhattan federal court order (PDF).)
Although it has been widely reported that numerous well-to-do victims, both individual and institutional, are likely to lose their shirts in the debacle, it appears that they may eventually reclaim some of their losses.
Once the firm's books are straightened out, "the SIPC will attempt to return to clients as much as possible of the more than $17 billion the firm reported it held at the start of this year," the WSJ writes.
And, as discussed in an earlier ABAJournal.com post, SIPC insurance and possible redistribution of "profits" paid to earlier investors in the claimed Ponzi scheme could also provide some relief.
Updated at 1 p.m. to include Boston Globe coverage.