Tuesday, December 16, 2008

The making of a Bernard Madoff: One possible scenario

I visit Jewish inmates at local prisons; I’m glad to say there aren’t too many, but there are some.

(Side note: I’ll never forget a lawyer who walked up to me in the meeting area, while I was waiting for my inmate to be brought down, and said, “I didn’t know Jews go to jail.” He’s lucky I was too surprised to slug him.)

I was once visiting an embezzler who had been a salesman, and had stolen his customers’ fees to support his gambling habit. He explained to me how he had fallen into doing it: In the beginning, he had been able to sign up enough new business, and win enough at the tables, to pay back the company before anything was noticed. Other salesmen and even managers knew about it, but they let it go because he was such a good salesman.

And every month that he made it through reinforced the idea that he could get away with it - in fact, that nothing was wrong.

Things started to go bad because his gambling debt climbed past his customers’ fees, but by the time he realized he couldn’t catch up, it was too late - he was in for too much, and so he needed to come up with successively more criminal strategies to cover up the theft. (Yes, this is what we call aveirah goreret aveirah - one sin drags in another.)

He could never bring himself to stop believing that the next day would bring salvation, that the next gamble would win back everything he had lost, and so he never came clean - until he was arrested.

I wouldn’t know Bernard Madoff from anyone, and every person has his own motivations and complexities, but I can easily envision his scheme starting in much the same way, even without a gambling habit: Investments one quarter don’t meet the expected returns, and he worries about his record and his appeal for new clients - so he takes some of the new money coming in, and uses it to inflate the portfolios of existing clients. It's more about reputation than building wealth.

Madoff develops a great reputation for successful investment, everyone wants in, so he needs to keep the reputation up, needs to provide great returns. It’s easy, just take the incoming money and spread it among other portfolios, all the while pretending that the new portfolios are also doing well. Works like a charm, so long as more new money is coming in than you need to spread around the old accounts.

And every quarter that he makes it through reinforces the idea that he can get away with it - in fact, that nothing is wrong.

Once things turn, though, you’re toast, and it doesn’t take long - maybe one quarter, maybe two - before you’re in too deep to ever climb out. Until, like my inmate friend, you are arrested.

I don’t see a “moral of the story” from the investors’ loss - they all invested in a fund with a great reputation, which had been entirely okayed by the SEC. You can't say, "They should have known it was too good to be true" - that's nonsense, they could not have known.

But I do see a moral in Madoff’s story: Don’t start down an unethical path, because, sooner, or later, you end up on the front page for all the wrong reasons, and you’ll bring down a whole lot of innocent people with you.


  1. If I'm not mistaken, hedge funds are unregulated by the SEC.

    Your portrayal of Madoff sounds more reasonable, though, than those of the media that fully demonize him.

  2. Thanks, Josh.
    SEC has limited regulatory oversight, per the Washington Post here. And he was investigated and cleared by the SEC recently.

  3. Pardon the inappropriateness of this question, and me, if necessary; Should Jewish Charities be sitting on so much funding? I do understand the concept of perpetual funding and endowment, but never the less, the amounts are staggering. I donate to fund good causes, not build up enormous funds needing money managers. Has tzedakah outpaced need and turned into an industry? This is true fodder!

  4. Hi Michael,
    Not inappropriate at all, to my mind. This is something I keep thinking about as well.
    Endowments are great, but people delude themselves into thinking that endowments are an invulnerable means of safeguarding their legacy.

  5. Thanks. That's giving him the benefit of the doubt. I love it. Borrowing anything that isn't yours without permission, seems to me, as innocent as it might seem. . .or is he just a crook.

    People commenting on my blog seem to be leaning that way!

  6. Thanks. That's giving him the benefit of the doubt. I love it. Borrowing anything that isn't yours without permission, seems to me, as innocent as it might seem. . .or is he just a crook.

    People commenting on my blog seem to be leaning that way!

  7. Doc-
    I wasn't actually trying to give him the benefit of the doubt; it's just my read, based on my experiences. But, I suppose it is a less malignant view of his intentions.

  8. Benevolent Jews to non Jewish causes lose big money to one twisted [Madoff] guy - antisemites applause