Disaster Insurance for Billionaires

What will happen if the crazies take over and inflation goes hyper, turning dollars into pennies?  A few billionaires are worried enough to go long on bitcoin. Some choose other cryptocurrencies. Even if worst comes to worst, they figure, bitcoin and the like might be tradable for goods and services. 

Billionaires are ideal cryptocurrency investors – they can afford the risk. As for the rest of us, we do well to heed a warning issued on CNBC by Robert McCauley: Investing in crypto is worse than investing with Madoff.

McCauley's reasoning: Eventually Madoff’s victims have had most of their losses returned to them. If bitcoin bites the cosmic dust, there’ll be nothing left but unpaid electric bills. 

What's the Estate Tax on a “$4.8 Million” Madoff Account?

Many Madoff investors lost their shirts. Some didn't. As you'll read here, death has led to tricky estate tax questions.

Through a personal pension plan, in 1992 Bernard Kessell started investing millions with Bernie Madoff. Kessell died in 2006. Madoff's firm told Kessel's executor that the date of death value of the account was more than $4.8 million. That value was reported on Kessel's federal estate tax return.

After Madoff's massive Ponzi scheme was exposed in 2008, Kessel's estate filed an amended return valuing the Madoff account at zero and claiming a refund. The IRS balked. Now the question of value has gone to Tax Court.

In a way, Kessel and his heirs were lucky. Before the roof fell in, they were able to withdraw more than he had invested. But not really so lucky. The Madoff trustee has sought to claw back such faux profits, using them to reimburse Bernie's less lucky investors.

What was the true value of Kessel's Madoff account? Apparently the Tax Count will have to decide.

Do Investors Want To Be Conned?

JPMorgan Chase must have noticed that Bernie Madoff's magical brokerage accounts exuded the aroma of dead fish. Based on that conclusion, the Feds are expected to impose a penalty of $2 billion. The bank's total financial punishment for recent transgressions, including the London Whale disaster,  amount to $20 billion. {A billion here, a billion there . . . .)

Before you knock JPMorgan and its formerly esteemed CEO, read James Surowiecki's New Yorker column:

[T]he fundamental difference between entrepreneurs and con artists is that con artists ultimately know that the fantasies they’re selling are lies. Steve Jobs, often enough, could make those fantasies come true. Still, that unquantifiable mélange of risk, hope, and hype provides both the capitalist’s formula for transforming the world and the con artist’s stratagem for turning your money into his money. Maybe there’s a reason we talk about the American Dream.

From JPMorgan's perspective, blowing the whistle on Madoff may have seemed like dissing Santa Claus.

Update: If JPMorgan Chase gets penalized for letting Madoff do his thing, what about the SEC? The agency was warned about Madoff but – as the WSJ points out – "allowed him to continue stealing from victims until the fraud collapsed in 2008."

Related post: Was Madoff a "Well-Known" Fraud?

The Willing Suspension of Disbelief

From Madoff Trustee Adds Details to Suit, Saying Financier Detected Fraud:

In 2003, a research company met with J. Ezra Merkin, a prominent Wall Street financier who had earned a fortune investing his clients’ money with Bernard L Madoff. 

During the meeting, according to a new court filing, Mr. Merkin … warned the unnamed company never to “go long in a big way” with Mr. Madoff. He joked that “Charles Ponzi would lose out because it would be called the ‘Madoff scheme,’ ” according to notes from the meeting.*** 

Some new details came from a phone call Mr. Merkin recorded during the fall of 2005, between himself and Mr. Madoff. After a different Ponzi scheme came to light involving the Bayou Group, a hedge fund firm in Stamford, Conn., Mr. Merkin told Mr. Madoff that this would further stoke suspicions about his business.

“You know, I always tell people, as soon as there is a scam in the hedge fund industry, someone is going to call about Bernie. It’s guaranteed,”••• 

Also included in the trustee’s amended lawsuit is a recounting of a meeting between Mr. Merkin and representatives of Ivy Asset Management, another firm that steered money to Mr. Madoff. At the meeting, Ivy raised questions about the uncanny consistency of Mr. Madoff’s returns.

When Mr. Merkin likened Mr. Madoff to the wizard of Oz, an employee at Ivy said, “Toto is still tugging at the curtain.”

To which Mr. Merkin replied, “The curtain is winning.”

Until Madoff was finally arrested in 2008, Merkin and others kept feeding millions into the massive fraud. Merkin himself claims to have lost $100 million.

Woody Allen's "Madoff" Movie

Woody Allen's first creative response to Bernie Madoff's massive fraud was a New Yorker humor piece. Two Madoff victims, Woody imagined, are reincarnated as vicious, vengeful lobsters.

Now he's made a movie, Blue Jasmine. Alec Baldwin plays the Madoff-like figure. Cate Blanchett plays his wife. The film depicts her plight after her husband is imprisoned and stripped of his fortune.

Woe to the Trusting Active Investor

From Ron Lieber's column in The Times, we learn that golfing in the investment jungle may have been costly indeed. Not only was the broker Philip Horn defrauding his golfing buddies, he seems to have traded ETFs and otherwise churned his clients' accounts. Lieber cites a study suggesting that actively traded accounts sacrifice three or four percent of return annually. If so, a Horn client with $10 million could have lost out on $300,000 or more per year.

Also in the Sunday Times, Paul Sullivan marks the 20th anniversary of exchange traded funds. The first exchange-traded index funds were a great idea. The proliferation that has followed – not so great. Also, ETFs make it awfully easy to jump in and out of markets and market segments. The temptation is costly but hard to resist.

Postscript. Walking around town this morning, a wealth manager's sign caught my eye. I snapped a photo, though I couldn't quite put a finger on why the sign struck me as odd.

As I wrote this post it came to me. Look at the tagline (to protect the innocent, I've obscured the firm's name).

"Trusted wealth advisors."

Philip Horn was a trusted adviser. For that matter, so was Bernie Madoff. What investors need are trustworthy advisers. Significant difference, don't you think?

They Didn't Trust Madoff

Bernie Madoff didn't fool everybody. Today's NY Times spotlights two notable examples:

Laura Blank. When she and her husband divorced five years ago, he opted to keep money with Madoff. Laura demanded cash. (Her ex-husband has sued to redo the divorce settlement, an effort that reportedly threatens to shake contract law to its roots.)

Martin Sass. Mr. Sass is not lucky. He started his investment business in 1972, just before the Dow plunged from near its all-time highs. Not lucky, just smart:

Mr. Sass first turned down a chance to get into the Madoff funds in the 1980s when Mr. Madoff, through a representative, refused to tell him how he made his returns. Again, in 2008, the Brooklyn College investment committee considered an investment with Mr. Madoff. Mr. Sass, who was chairman of the investment committee, fought fiercely against the investment and won. 

"Mr. Sass," the Times points out,  "is just not a believer in get-rich-quick deals." Apparently, neither is Laura Blank.

How Madoff Worked It

The owners of the New York Mets fed clients and money to Bernie Madoff through a family company, Sterling Equities. This story (in the NY Times sports rather than business section) offers some details.

Why did Madoff operate through "feeders?" In Sterling's case the company staunchly defended Madoff from contact with his clients.

What kind of clients did Madoff want his feeders to turn away? Sophisticated investors. Too nosy.

What annual investment returns did Madoff promise or seem to provide? The Times offers figures from several sources:

• Sterling's partners: around 18%
• Larry King's accountant: 10-14%
• Unidentified client: 9-12%
• Former Sterling employee investing via 401(k) plan: 12-15%

By the end of 2008 about 90% of Sterling's 401(k) plan was invested with Madoff.

Hard to tell, even now, which banks, clients, feeders and SEC staffers should have recognized what Madoff was up to. What becomes ever clearer is that few wanted to know.

An Amish Bernie Madoff?

Good grief!

Photo via Wikimedia Commons

Madoff Was No Ponzi

From the Scandal! exhibit at the Museum of American Finance comes this international reply coupon.


Back in the day, Europeans writing to addresses in the U.S. could enclose these prepaid-reply-postage coupons. Because of inflation after World War I, the cost of purchasing the coupons in Italy was less than their value in U.S. postage. That arbitrage opportunity caught the eye of Charles Ponzi.

Admittedly, Ponzi's scheme ended badly. But Bernie Madoff's secret method for manufacturing steady, above-average returns from stocks and derivatives lacked even a veneer of plausibility. Do we insult the memory of Ponzi by linking his name to Madoff's?

Was Madoff a “Well-Known” Fraud?

Informative write-up of the Madoff-JPMorgan suit in the NY Times. Two words in the much-quoted e-mail from a risk manager at Chase keep catching my eye:

"[A bank executive] told me that there is a well-known cloud over the head of Madoff and that his returns are speculated to be part of a Ponzi scheme."

The cloud was well-known in June, 2007? So Wall Street was divided between those in the know and those who were clueless? Or was the division between those in the know and those who took pains not to know?

Later in the Times article we glimpse the enormous money movements that seem unremarkable at a big bank. An "unidentified wealthy Chase customer" had introduced Bernie to the bank. In 2001 this customer's account sent Madoff a check for $9 million "on a daily basis." On one day the following year, more than $300 million flowed from Madoff to the customer's account. Remarkably, the cash flow consisted of 318 checks, each made out for exactly $986,301.

Why would some Wall Street bankers wish not to know of Madoff's fraud? The suit by the trustee for Madoff's victims notes that JPMorgan Chase made good money selling derivatives based on Madoff feeder funds.

Sort of like charging for dry cleaning the emperor's new clothes.

Floyd Norris writes, "The evidence in the lawsuit clearly shows that people at JPMorgan Chase saw red flags." But as we learned back in the days of Sam Israel's Bayou funds, some people are color blind.

Bayou (Strike one!) Madoff (Strike Two!)

Before the owners of the NY Mets invested big-time with Bernie Madoff and made handsome fictitious profits, they entrusted millions to, yes, our old friend Sam Israel and his Ponzi scheme.

Why is truth so implausible compared with fiction?

Fred Wilpon and Saul Katz may have to give back their Madoff "profits." Will they also have to fork over additional millions?

Madoff Claims Become Hot “Distressed Asset”

Fee fi fiddle-de-dee,
A hedger's life looks fine to me.

As the year winds down, hedge fund managers have good reasons to Deck the Halls. Last I heard, the tax-extender legislation will not tax the "carried interest" portion of their earnings as ordinary income. And The New York Times reports that hedgers and other "sophisticated distressed investors" have a new asset in their sights. Claims of Madoff victims.

Know anybody who has sold his or her claim?

Buy Madoff's Bull?

A lot of investors are sorry they bought Bernie Madoff's bull. Perhaps you'll have better luck with this little bronze. The bull is up for sale November 13, when the U.S. Marshalls auction off 400 Madoff items.

Scoundrels and Scandals

Bernie Madoff's golf tees, an Enron stock certificate and reminders of earlier financial scandals, dating all the way back to the 18th century, are featured in an exhibition at the Museum of American Finance in New York. Check out the NY Times slide show.

Bernie Madoff and the Bank Custodian

What is the sound of one hand clapping?

If custody accounts contain shares of "Madoff funds," what's in the accounts?

You're on your own answering the first question. The second concerns Westport National Bank. In The New York Times, Floyd Norris explains that the bank funneled money from small pension plans and IRAs to Madoff. The bank served as custodian for the "shares" purchased by the retirement plans. Messy legal snarls have resulted.

Related post:
Show Me the Certificates!

Will Madoff's Victims Be Picower's Heirs?

Ten days before he died in his swimming pool, billionaire Jeffry Picower signed a new will. The "longtime investor in Bernard L. Madoff’s fraud scheme" left $225 million to his wife and daughter and $10 million to his long-time assistant. The reminder of the estate is left to charity.

Or perhaps it will go to the truly needy.

The New York Times reports that Irving Picard, the trustee representing Madoff's victims, has demanded that the Picower estate hand over $7 billion that the Picowers received in payouts from Madoff. The estate argues that the trustee is entitled to no more than $2.4 billion.

All told, trustee Picard estimates that Madoff's victims lost around $21 billion. Additional "losses" were imaginary profits that never existed.

Different Regulators for Different RIAs?

Unlike brokers, Registered Investment Advisers are held to a fiduciary standard. Generally, they're regulated by the SEC. Congressman Bachus of Alabama has a different idea, Investment News reports. He's added an amendment to a bill being marked up in the Financial Services Committee that would shift regulation of Registered Investment Advisers associated with broker-dealers to FINRA.

Is it a good idea to take regulation of some advisers away from the SEC? No, was my snap judgment. Then I remembered who was supposed to be regulating Madoff.

The Case For Custody

Four-color ads from decades past in The New Yorker archives, printed on better paper, look OK. Black-and-white ads often look spotted (rotted? mildewed?), like this U.S. Trust ad from April, 1964:


Custody accounts, usually regarded as a loss-leader, were seldom promoted in the 1960s. Had some event prompted concern about securities "misappropriated or stolen"? This blogger knoweth not.

Should trust companies and bank trust units do more to promote custody accounts in this Age of Madoff?

•

Here's a four-color ad, also from April 1964. Bet Mad Men conceived it before JFK's assassination the previous November. Today the delectable photo reminds us that it was once thought the 1960s would be remembered as the new Age of Camelot, not for Vietnam.

Show Me the Certificates!

The founder of The Merrill Anderson Company was a courtly gent. Only once did I hear an edge in his voice when he addressed a client.

I think we were in Boston, probably at State Street. The client was describing the features of a custody account: "We clip coupons and otherwise collect income, watch for call dates, keep securities safe in our vault and …"

"Do you?" Merrill interrupted. "You keep the securities certificates right here in your vault?"

Yes, the client assured us. They really did.

At the time, the early 1960s, trust departments were probably starting to outsource by using depository trust companies, so the question wasn't out of line. Still, young and innocent me thought Merrill was fussing over a minor matter.

But it wasn't a minor matter during the Great Crash and Depression. My father, it occurs to me, always had his broker send him the certificate when he bought a stock.

And it's sure not minor in the age of Madoff. Yesterday's stories in The Washington Post and The New York Times should terrify investors.

Worst failure by the SEC in its 75-year history? Sure hope so. As the NYT reports, H. David Kotz, the agency's inspector general, found "incidents in which investigators seemed hopelessly out of their depth, far too credulous and perhaps just plain lazy."

If our broker didn't charge so much for the service, I'd be sorely tempted to demand, "Show me the certificates," and put them in our safe deposit box.

Repercussions? Will the Madoff debacle have a long-term effect on high-net-worth investors? Could the investment-management arms of community and regional banks benefit? In this age of electrons and pixels, how does even the most trustworthy of custodians prove its trustworthiness?

Sign of the times. Though most boomers may never have possessed a stock certificate, cancelled or deceased certificates have become popular collectibles. With every order, Scripophily.com is right now offering a free GM!