May 16, 2011

Who will be the next Bernie Madoff?

POLITICS - There are murderers who will get out of prison before Bernie Madoff does. New York financier Bernie Madoff is serving a 150-year sentence for pulling off the largest Ponzi scheme in history. He will die in prison long before that number is fulfilled.

To his benefit, Bernie Madoff pleaded guilty and his case didn’t go to trial. Which left lots of unanswered questions about how he managed to pull off the biggest Ponzi scheme in history, and begs the question of whether other people out there are doing the same thing and just haven't been caught yet? When did he start cooking the books? And how did he get away with it for so long? Who will be the next Bernie Madoff?

Diana B. Henriques, a New York Times financial writer who knew Madoff during the 1980s, has written a fascinating book that reads like a novel: "The Wizard of Lies: Bernie Madoff and the Death of Trust" (Times Books, $34.50).

The book reveals a lot of the faults in the U.S. financial system and how easily someone could run a Ponzi scheme and defraud their investors. The real trick is whether they have the brains to leave the country and disappear when they have the chance.

With books like this, and films like "Inside Job", which reveal just how corrupt and useless the American government is, it makes you realize how much big business now controls the USA.

The book begins with Bernie Madoff’s first on-the-record interview with Henriques in a North Carolina prison in August 2010.

Madoff insisted his family knew nothing about the fraud — a claim the author came to accept, since his wife and two sons didn’t flee (as they could have) after his surrender.

In a second interview in February 2011, Madoff had “shockingly changed” after his son Mark’s suicide at age 46 in December 2010. He is thin, almost fragile. What had been confident magnetism has weakened into a troubled intensity,” she writes.

Henriques isn't able to pinpoint the date when Madoff started his Ponzi scheme, using cash raised from later investors to pay the profits promised to earlier investors.

But she does find irregularities going back to 1962, when he erased losses from his clients’ accounts by buying their new-issue shares back from them at the original offering price – hiding the fact that their profits had been wiped out by the market’s turmoil. It was trickery in an effort to maintain his reputation and keep bringing in new and more wealthy investors.

“In the heyday of its success, a Ponzi scheme is amazingly painless,” Henriques theorizes in her book. "At first, you just see gratitude. It seems to be such a gentle crime – until the awful day when the music stops.”

What she means is that at first the Ponzi Schemer thinks they're doing a good thing, by paying their clients the full amount they promised them, even though it means defrauding other clients.

But its important to note how difficult it is to catch this kind of fraud.

“With his ability to disarm even the most sophisticated institutional investors, Bernie Madoff revealed how diabolically difficult it is for regulators to protect the public in the 21st century,” she writes.

Investors crave certainty. Thus Ponzi schemes will always be with us, because investors are too dumb to realize when an investor's reputation is "too good to be true". They just see a sure thing and fall into the trap laid for them.

Investors are looking for something easy and simple to put their investment money into, riskfree with high dividends... and Ponzi schemers like Bernie Madoff present that opportunity because their reputations are so flawless.

Many of today’s investors stubbornly insist they can find an investment wizard who can produce a totally safe investment yielding 8% a year. (Just like gamblers who think that they will eventually find a winning combination at the racetrack that will beat the odds.)

“What went wrong was their rejection of the basic bedrock principles of investing — that high returns are leg-shackled to high risks; that you should never put all your eggs in one basket; that you should never invest in something you cannot understand.”

What makes matters worse is when investors make decisions based on trust, they don’t read the fine print. Bernie Madoff learned that once trust is earned it will protect a con man from every red flag. The investors will just keep coming back, like gamblers to their favourite bookie.

“This is the hard lesson of the Madoff case that none of us wants to accept,” she writes. “We all invest on faith. We all believe that trust is all we need — indeed, most of us don’t have enough time or information to rely on anything but trust."

Because if we had time or information to do our own investing, we wouldn't be going to hotshot investors like Madoff in the first place.

“If regulators and policy makers don’t acknowledge this, their approach to the chronic problem of market fraud will be limited and ineffective.”

The next Bernie Madoff is already out there, working in secret somewhere, exploiting our trust and growing over confident in their ability to keep the web of lies spinning. Will they make a run for it when they realize everything is falling apart? Or will they go down with the sinking ship like Madoff did?

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