July 18, 2012
It Appears That The Madoff Scam
Was Not, Repeat Not, A Ponzi Scheme.
From the time Bernie Madoff's fraud was uncovered in December 2008 until today, a period of over 3 - years, his scam has been regarded as a Ponzi scheme. I know of only one person, a brilliant lawyer named David Bernfeld, who did not concede it was a Ponzi scheme, but nobody accepted his view. Victims, (very importantly) the media, and courts all thought and said Madoff was a Ponzi scheme. Of enormous importance the Trustee in the Madoff case, Irving Picard, and his chief lawyer, David Sheehan, regularly insisted it was a Ponzi scheme because, they said, there were no securities transactions, and accordingly there were no securities, and no earnings (and could not have been any earnings). Crucial legal and factual consequences, some of which are mentioned below, flowed from the fact that the scam was regarded as a Ponzi scheme.
But now it is beginning to look as if Madoff was not a Ponzi scheme. It was a huge fraud to be sure, but not the species of fraud called a Ponzi scheme, with the consequences attendant upon that species of fraud.
As I have always understood matters (I think and hope correctly), in a Ponzi scheme the crook tells people that he will be investing their money in particular stocks or particular goods or what have you, and then fails to do so. Instead he blows the money, uses it for other purposes, etc. The key point, the central point, is that he does not purchase or acquire the investments that he told victims he would acquire in order to induce them to give him their money. Along this line, in the Madoff case the Trustee has always insisted -- in court filings, in remarks, whenever and wherever -- that none of the securities that were shown in victims' monthly account statements -- none of the securities that Madoff inducingly told victims he would buy and sell for them -- were ever bought or sold. There were, the Trustee and his lawyer have told victims, the courts and the world, no transactions in these securities. Ergo, a Ponzi scheme.
But apparently there were purchases and sales of these securities -- untold and currently unknown billions of dollars of these purchases and sales. On his books, however, Bernie Madoff did not, as he should have, credit the investor-victims with ownership of the billions of dollars in securities he was buying (and selling). Instead, on his books he unlawfully kept ownership for himself. There was a fraud alright, but the fraud was not the Ponzi fraud of failing to buy the very items the crook said he would buy. The fraud, rather, was in failing to credit his investors with the ownership of the securities on Madoff's books, as should have been done, and instead keeping the securities for Madoff himself. The securities, that is to say, were bought and sold for what was called the proprietary trading arm of Bernie Madoff's company, the arm which bought and sold securities, and attempted to thereby make a profit, for Bernie's company. They may also have been bought for the market making arm of his business. The monies given to Madoff by his investor victims was used not to purchase the promised securities for them, but instead to purchase those securities for Madoff himself -- for his own account, as it is said, and, when necessary, to support another arm of his business, the market making arm. (The monies were also used to fund the Madoff family's extravagant life style.) The account statements received every month by victims, and showing that they owned the securities, were a lie, a fraud.
It would be fair for the reader to ask at this point, "How do you know all this? Can you be sure of it?" Let me answer this way: For reasons discussed below, and for other reasons too, we already know enough to be virtually positive that the foregoing is what occurred. But we do not know enough to know certain of the details, e.g., what was the total value at any given time of the securities that Madoff purchased for his own account, and how closely did the value of these securities match up with the amounts of monies victims invested with him; how much of the money invested with him was used to support the market making arm of Madoff's business or the family's life style instead of being used to buy the securities for Madoff's own account that he fraudulently told victims were being bought for them; what amounts of profit or loss did Madoff make or suffer on the purchases and sales of securities for his own account.