a Times article

Yesterday, the New York Times published a front page article based on correspondence with, and an in-prison interview of, Ponzi-schemer Bernie Madoff.  The reporter is turning her investigation into a book.

what Madoff said

Madoff had a number of comments:

1.  Discovery of his crime has had a much more severe negative impact on his family than he expected.

2.  He has given important information to Irving Picard, the trustee appointed by the court to recover investors’ assets (despite the fact he refused to help prosecutors after he was arrested).

3.  Internal bank and investment firm correspondence he has seen while in jail convince Madoff that these partners of his deliberately failed to do due diligence before recommending him to clients.  Why?   They knew they would find fraud–and thereby kill the goose that laid the golden eggs for them.

4.  In contrast to the banks, the Wilpon-Katz family, New York real estate developers and owners of the Mets baseball team, were clueless.  Despite having a cadre of highly educated financial and legal experts, and being sophisticated investors themselves, they “knew nothing.”

5.  There is no need to pursue Madoff clients who received the assets that belong to defrauded customers.  Why?  If other lawsuits seeking punitive damages from institutions that Picard maintains were “complicit” in the fraud are successful, there will be more than enough money to pay off investors who lost part or all of their principal.

is there any reason to think Madoff is being honest?

What are we to make of this?  Is any part of it true?

We do have one indication:  …Madoff’s gloating soon after arriving in prison about how he sized up business partners and clients–and refused to have anything to do with anyone he thought might be capable of uncovering the fraud.  He wouldn’t talk to them, wouldn’t take their money.  In other words, Madoff will only speak to people he’s confident he can successfully lie to. (I realize there’s a whiff of the famous liar paradox about Madoff’s statement, but I choose to think he’s being honest here.)

If so, what does this say about the reporter, to whom Madoff seems to have given a significant amount of time?

a human tendency

More generally, it seems to me that there’s a human tendency to think of oneself as somehow special…to say, in effect, “Yes, I know he’s defrauding others, but I’m part of the “in” group.  He won’t do that to me.”  Con men cultivate this feeling and take advantage of it.

In the Madoff case, early investors seem to have believed that the superior returns he advertised came from his illegal “front running” of clients in his brokerage business (that is, buying for himself before executing orders from brokerage clients, using the client volume to push prices up).  Yet, they were happy–no, eager–to give him their money, in the belief that 1) he wouldn’t cheat them, and 2) that he was willing to gift them with some of the money he stole from others.  Sounds crazy, doesn’t it?  But that’s what a lot of people did.

my take,

for what it’s worth:

1.  Madoff gave no thought to the effect that discovery of his fraud would have on his family, so of course he’s surprised.

2.  Some of the information cited in the Picard lawsuit against the Wilpon-Katz family sounds as if it came from Madoff, or perhaps Madoff confirmed surmises Picard’s forensic accountants made, but I doubt he provided other information.  He would certainly not be a credible witness in court, even were he to choose to testify.

3.  Madoff was very clever in arranging his fee structure.  The vast majority of the hedge fund-like fees charged to customers were kept by the selling agent.  So I can imagine there was immense pressure by top managements of his business partners to look the other way.

Consider the case of GE, a blue chip company made up of decent, hard-working people.  Less than a decade ago, even parts of that corporate icon wilted under pressure from a former chairman and falsified their financial accounts, so they could be seen to be achieving earnings goals.  I’m not condoning this activity, just saying that it happens and that potential whistleblowers would likely have gotten a very frosty reception.

4.  Long-suffering Mets fans realize that the Wilpons don’t have what it takes to run a sports franchise.  We also know that Madoff spent lots of time with the Wilpons and took huge amounts of their money.  So, no matter what Madoff says, his actions tell us what he thought of them.

Nevertheless, the Wilpon family would doubtless be classified as sophisticated professional investors–and subject to the much higher standards of conduct that this entails–based on the size and breadth of their operations, their education, training and experience, and the high quality of the financial and legal staffs they employed.  Separately, the Wilpons are also apparently being sued for failure to supervise their employees’ 401k plan, virtually all of which was directed to  Madoff.

These will be interesting cases to watch.

5.  I don’t understand the logic of Madoff’s wish that customers who received money stolen from others should be allowed to keep it.  I have no idea what the law is on the matter, though.

investment implications

Two that I can see:

I think we’re all susceptible (I know I am) to the idea that our own intrinsic worth shines through so clearly in all we do that complete strangers will offer us “special” investment opportunities as soon as they meet us.  Caveat emptor is a better rule to use in investment.

I started out as an oil analyst.  One of my earliest industry contacts told me that in his experience “good” oil wells always produced continual positive surprises.  “Bad” oil wells, on the other hand, continually disappoint.  I think that’s generally true of stocks, too.  In the case of unethical conduct, a given instance may be the first you have heard of.  But it’s a very bad assumption to think that this is the first instance that has occurred, or that the negative news is limited only to the area you have identified.  In all likelihood, the opposite is true.  The instance is almost certainly not the first, and chances are it’s indicative of a corporate culture that pervades the entire enterprise.

Life is too short and there are too many good investment opportunities for us to need to bet where the odds are stacked against us like this.