Lessons from the Madoff Scandal

We aren’t getting many questions on the Madoff scandal, and well we shouldn’t. StrategicPoint’s investments look nothing like those of Bernie L. Madoff Investment Securities, LLC. Nor do we operate in the same manner. However, the Madoff scandal has some simple due diligence lessons that everyone can benefit from.

The scandal is riveting, if not disturbing. How can $50,000,000,000 have vanished from the pockets of innocent charities and trusting clients? Bernie Madoff ran a Ponzi scheme for decades without being discovered. In its briefest form, a Ponzi scheme uses money from new investors to pay returns and profits to longer term investors. As long as the in-flow of new money is high enough to cover expected profits to earlier investors, the Ponzi pyramid survives. But when investors request liquidation of their accounts, which happened recently at Bernie Madoff’s firm, and new money dries up, the pyramid collapses and the deceit is exposed.

Much has been written about the psychology behind the investors who put their faith in Bernie Madoff. Chalk it up to a refusal to question anything that seems to be too good to be true, or the allure of exclusivity and secrecy, or maybe just plain lack of understanding of “sophisticated” investments. Even the worst of charlatans can wear the disguise of charisma, competence and invincibility and become magnets of trust. One must look beyond the veneer of any person selling you an investment product or service. The good news: you don’t need an advanced degree or years of investment experience to do your due diligence.

Simply ask yourself the following questions:

Is my money held with a custodian who is independent of my investment management firm?
When I deposit money into my account, is my check made out to the independent custodian and not my firm? (The only checks that should go directly to an investment manager are payments for fees and services)?
Is my monthly statement issued and postmarked from the address of the independent custodian?
Does the monthly statement mention that the custodian is a member of the SIPC (Securities Investor Protection Corporation)?

Bernie Madoff was a broker who headed up his own investment firm. He also ran a broker dealer that was its own custodian. That means he had access to his clients’ money and could commingle the firms’ money with the clients’ assets, directing where the money was spent. In addition, his statements did not clearly specify what the money was invested in and did not sport the logo “Member of SIPC.” Bernie’s trick was that he was smart enough to create an investment style that could avoid oversight, and, where regulatory requirements existed, he worked his connections and his reputation to limit his exposure to sanctions. But he left some telltale signs on his monthly statement that could have given away his ruse.

For the record: StrategicPoint uses Pershing, a division of the Bank of New York, member FINRA and SIPC as its independent custodian. The SIPC reference is important as it pertains to insurance protection on assets. Should StrategicPoint cease to exist (an event not anticipated, but a question everyone should ask of their investment manager) client assets would remain at Pershing, untouched, and not accessible by StrategicPoint creditors. If Pershing failed and client assets would not be located, the first $500,000 of each client’s lost securities would be protected by SIPC including up to $100,000 in cash. Excess coverage is offered by Lloyds of London. For more information on Pershing, SIPC and Lloyd’s of London visit:

http://www.sipc.org/
http://www.lloyds.com/
http://www.bnymellon.com/

Bernie Madoff’s reported investment performance was so strong and consistent for so many years that everyone wanted to believe in his brilliance and expertise. Yet a simple common sense due diligence could have saved his clients their life savings. Instead, they looked the other way, figuring that the elite company they kept – not an independent custodian with asset protection coverage - was good enough to protect themselves.

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