What Madoff Can Teach Us
It’s amazing how greed could get one screwed. Bernard Madoff schemed investors out of $50 billion for decades. Yet, when the former chairman of NASDAQ finally confessed his sins to his sons, his firm, Madoff Securities, had no more than $200 million in assets. He is, nonetheless, a good boss it seems. He planned on distributing the leftover funds to friends, family and employees. He used to treat employees a weekend outing every year to his oceanfront mansion.
The real victims here are the investors. Some of the biggest losers include Fairfield Greenwich Advisors, Tremont Capital Management, Ascot Partners, HSBC, and Royal Bank of Scotland. One founder of Access International Advisors that lost $1.4 billion, including most of his personal assets, slit his wrist and downed some sleeping pills. Celebrities such as Kevin Bacon also lost most of his wealth forcing him to go back to work.
Seeing as investors will not receive no more than 10 cents on a dollar invested, it is best to hope for the worst and move on. Early investors who have redeemed their investments may even have to return the money because the money really belonged to the latter investors in the Ponzi scheme. What sucks more for these early investors is that if they paid taxes on the profits from their investments, they probably won’t be able to get a refund on those paid taxes.
What’s interesting is how Madoff pulled this off. Madoff reportedly started recruiting investors by working the well-heeled Jews at country clubs on Long Island and Palm Beach. Some of the prominent investors included… get this… Eliot Spitzer and Steven Spielberg. The promise is a consistent 10% return year after year. And sure enough with his brilliant Ponzi scheme, he delivered. A little too consistently.
Other fund managers thought his reported returns were suspicious based on the method he claimed to have used to achieve them. Madoff basically buys 30 - 35 blue chip stocks while simulatenously sells puts and purchases calls to limit the downside. This strategy doesn’t earn high returns. But when applied frequently throughout the year, the nominal returns add up. In theory, this seems plausible. In reality, 72 gaining months in a row seems too good to be true. And turns out it is.
There is really no good news that can come out of this for Madoff’s investors. It’s unfortunate that his investors also included charities and college endownments. For us “less fortunate” investors who don’t have enough money to beg Madoff to take off our hands, we can only learn from others’ mistakes: Don’t buy into what you don’t understand. Like subprime mortgages bundled as CDOs, funds of funds could be just as toxic. One oracle of Omaha has laid out the path for everyone to follow. It’s simple and takes a while. No need to rush.
