The Biggest Stock Investment Scam In History: How Does It Affect Us?

by Silicon Valley Blogger on 2008-12-2721

What’s the fallout on the biggest stock investment scam ever? How will these stock fraud schemes affect us? More than you think.

I found this incredible. The Madoff saga is far from over. The consequences continue to ripple through the financial world, with more developments that continue to bug. I’ve been following these stories with a morbid fascination, as I find them representative of the outrageousness of this current financial era.

Biggest Stock Investment Scam Ever Pulled, The Madoff Fraud Fallout

So how did Madoff orchestrate such a massive swindle? He did it just like how anyone in the upper echelons does business — through trusted relationships. Madoff had deep roots in the investment world, where he was firmly ensconced in the world’s financial capital and the heart of Wall Street — in New York City, where he wined and dined and rubbed elbows with those powerful, wealthy and influential; but the fact is, he even has deeper roots in the SEC office, which was supposed to be keeping a close eye on investment houses like his. How else would you be able to pull such a large heist but by having important people (especially those who police your sensitive operations) look the other way or scrutinize you less closely?

stock investment scam

Should The Rich Get A Bailout?

Some of the latest developments on this scam now include an investor suicide (and potentially more on the way) and many of the very wealthy knocked down by several million to a billion. EACH. And what incenses me the most is how, as they unravel this mess, that we’re seeing the apparent involvement of the SEC and the possibility that we taxpayers may need to foot this bill as well (the SIPC may not have enough to cover the Madoff related losses). So industry bailouts are not enough? We’ve got to bail out even the affluent people who’ve decided to entrust their riches to one guy?

“There’s no doubt that hearings will be held on this, and some government aid is a very logical request,” said Robert Schachter, an attorney with New York-based Zwerling, Schachter & Zwerling, which is representing several Madoff victims. “If we’re bailing out Wall Street and the auto industry, maybe these individuals should be bailed out too.”

“It is way too early to speculate about the claims,” he said. “We don’t know the number of customers, how much each is owed, and I don’t want to be prematurely alarmist.”

That’s not exactly what angry investors like Ambrosino want to hear. She used the money she thought was secure with Madoff to retire early, buy a luxury motor home, and travel around the country. The only assets she has now are the pieces of furniture inside the motor home she’s been making payments on for the past four years.

Oh geez.

Top Stock Investment Scams In History

As we peel more layers off this developing story, what do you think? How does it compare to the other major investment scams in history? Nothing compares, really. These days, these older schemes, as relayed by Investopedia, just seem so minuscule relative to the biggest frauds committed in 2008 (of which there are many). A sampling of what’s happened before:

ZZZZ Best Inc., 1986 – A teenager named Barry Minkow claimed to be building a multi-million dollar carpet cleaning company. The company went public in the mid-80’s with a market cap of $200 million before it was discovered to be a scam.

Bre-X Minerals, 1997 – A Canadian company claimed to own the richest gold mine there ever was. Collectively, the losers from this scam were out several hundred million; among the victims were public sector funds, teachers’ pension plans and municipal employee’s retirement funds.

Bayou Hedge Fund Group, 1998 – Samuel Israel III defrauded investors with a complete sham of an investment company. The investors lost around $450 million.

Enron, 2001 – Cooking the books was the name of the game for some Enron executives. Arthur Andersen, went down with this debacle as well, as Enron’s auditor.

Additional individual stock collapses were attributed to scams such as those perpetrated at WorldCom (2002), Tyco International (2002) and HealthSouth (2003). This is the kind of thing that makes me shun individual stocks for good.

As far as I know, there weren’t bailouts involved in these cases that directly involved me, as a taxpayer. Therein lies one big difference.

Entertaining Escapist Thoughts

I’ve actually got much more to say about these unbelievable stories that are currently unfolding in the financial front, that I have to make them span a few posts. For a while now, I’ve given the machinations of those in power (in government and private industry), the benefit of the doubt, as I wondered whether a lot of the financial crisis was exacerbated by media overhype, or whether Wamu was an isolated incident. But scam after scam and bailout after bailout has made me lose my faith in our government, has made me question the tenets of capitalism and has made me reevaluate some of my strategies as a stock investor. And the dominoes are still falling. They don’t call this the worst economic crisis since the great depression for nothing.

In fact, this brings to mind a comment I received sometime ago when an adamant reader proclaimed that we should stay completely out of the stock market right now, given the circumstances. A few months ago, I respectfully disagreed with their position, but now I realize that they’ve been fortunate by taking the stance that they did, thus being able to dodge some major damage to their investment portfolio (more lucky than prescient, given that we didn’t have as clear a picture of the vast subterfuge being played on the American public back then). I now feel that this recession IS different, far from your typical boom and bust cycle, because of the shenanigans that we’re all uncovering and will be having to pay for now and way into the future. These events are not as isolated as you may think.

I’m a proud contrarian, but I have to ask: how many of you (as taxpayers and investors) have entertained the thought of taking what you’ve got left and skipping the heck out of here?

Copyright © 2008 The Digerati Life. All Rights Reserved.

{ 18 comments… read them below or add one }

Eric J. Nisall December 27, 2008 at 1:16 pm

I see the investors as having to share part of the blame in the Madoff scandal. How on earth did they believe that one man was able to not only beat, but decimate the returns of every other investing guru on the planet. The answer is greed. When things are going well, no one questions it, but when things head south they are all up in arms. Regardless of the level of sophistication or knowledge of each investor that went with Madoff, the overriding theme was that they didn’t care enough to ask because they were all “making money”. The saying “If it seems too good to be true, then it probably is” applies very well in this instance.

As far as packing it in as an investor? Heck no. I view this as a once in a lifetime opportunity to get behind good companies with strong financials and rising dividends at enormous discounts. Eventually, when all is said and done, the truly good companies will recover and reward those who were not scared off by a few rotten apples involved in the markets, whether they are the crooked investors or poorly run companies.

kitty December 27, 2008 at 6:11 pm

” Regardless of the level of sophistication or knowledge of each investor that went with Madoff, the overriding theme was that they didn’t care enough to ask because they were all “making money”. ”

So true. I saw a program on Madoff. One of the things they mentioned was that among the list of stocks, the statements included option trading. The strategy listed was not the one that produces spectacular returns but the one that minimizes risk while producing rather small returns. The individual investors who don’t understand option terminology couldn’t understand that but Madoff’s institutional investors had to. Investment companies and hedge fund manager had to see that his investments couldn’t have possibly produced these returns. The problem was that each of these investment companies thought “if we doubt Madoff and withdraw our investors’ money from Madoff’s funds while he is making money, our investors will question our judgement, leave us and go elsewhere”.

I am not packing it as an investor as it seems to be a bit too late to sell now, and as the previous poster said, there are some good companies on sale now.

Brett December 27, 2008 at 9:22 pm

One of the largest ponzi schemes before this one was actually the MMM scam in post communist Russia. I am not sure why this one never makes any lists in the US media. It devastated many in the new middle class in the new Russian market economy. I have a handful of of the “certificates” in a desk drawer from friends who invested and lost all their money who eventually the notes to me due to my interest in this fraud. Many Russians will still not invest in any market securities due to their (or relatives’ experience) with MMM, so it had significant long term impact. It was a blow to the trust required in a capitalist system and shows how a corrupt system that enriches a few hinders the wealth of the average citizen and has likely held back the entire capital market of Russia. The worst part of this entire fraud was that there was no punishment to those responsible under Yetsin.

The case of Madoff is also a blow to faith in “the system” and even more to the oversight that leads us to believe that it might be real and fair. I too would hate to bail out the rich but I would hope that I would see some relief if my trusted Vanguard turned out to by a pyramid scam. That said, my mattress is still full of the traditional stuffing materials, because I still have faith that this was an unusual event and Vanguard is still a great mutual fund company. Although, I may look at splitting my money between brokerages — just to be safe.

Mark December 28, 2008 at 1:34 am

Yeah I think splitting money between brokerages is actually a great idea, I might even do it myself.
Good luck.

jim December 28, 2008 at 7:24 am

I never once thought about packing it in because the only way you could reasonably do that is if you planned to pack it in forever, otherwise you’re just trying to time the market (which is fine, but risky).

I am fine with SIPC rescuing some of these people as the limit are small relative to how much money is really at stake. I think that the people at the SEC should have their heads lopped off though for letting this happen. They should’ve seen this, that’s their job and they are the experts. Remember that until recently, Bill Miller at Legg Mason had beaten the S&P for fifteen years in a row and there was no fraud involved (as far as we know!).

kitty December 28, 2008 at 4:06 pm

Regarding SIPC rescue – I’d like to second Jim on that. The issue is not bailing out rich or stupid, the issue for me is setting a precedent. If SIPC runs out of money and the government doesn’t cover the difference, how much SIPC protection for our own investment accounts is worth? What about FDIC?

Also some of the people who lost money are not that wealthy: there were old people with 1-5 million in assets, which is something most of us hope to have by the time we retire, who lost their life savings. Now we know that it was stupid to put one’s trust in one person. But so many time we hear suggestions of hiring a professional manager, an “expert” and let him manage one’s money. This is what Madoff supposedly was. He also was a respected person and a “family friend” to many of the victims.

I have some of my money in TD Ameritrade. While I do my own trading there, I certainly would like to know my account is protected against fraud. I do hope individual brokerage accounts are “safer” since we don’t have a manager and we also know that we really own the stock we bought since the companies send us their voting materials. Or do we? Surely forging all these company statements may be a bit more complicated than producing a monthly statement that lists a few stocks and some options lingo most people don’t understand (myself included). I also have a couple of mutual funds with different companies. My ESPP stock is held by another company. My 401K, on the other hand, is managed by Fidelity. I hope they aren’t going to run with my money, but who knows.

Brent – I heard about MMM. In fact, I was just going for a walk with a friend today and my friend brought it up. I don’t think it got that much press outside of Russia, though.

Patrick December 28, 2008 at 7:21 pm

Skip the country? No. I’d love to live in another country for awhile, but purely because I love different cultures. As bad as things may appear in the US, there are many places that are far worse. After having lived in 2 countries and traveled to over 30 others, I firmly believe the US is the greatest country in the world.

As for the SIPC bailing out these investors – up to an including the limit is fine. That’s what it is there for. But anything above and beyond that would be inappropriate. If the government sees fit to raise the SIPC limit like they did with the FDIC, I think that is fine as well, as long as they do not make it retroactive.

andy December 28, 2008 at 9:38 pm

I fear there are more scams to come as the financial crisis unfolds and more information is revealed. A lot of this was covered duing the good times. For example, rememeber Dick Grasso (NYSE head) walking away with $200 million! To me the biggest scam though was teh internet bubble, where companies with no plan, no revenue and no customers were worth billions. We just trusted the “word” of analysts and brokers keen to make a buck.

selena December 29, 2008 at 5:39 am

Yeah, this is the biggest fraud and scam in the history of financial markets and it’s going to affect all the people connected with markets including the brokers.

Clemence December 29, 2008 at 7:00 am

More scams are bound to appear as people gets more desperate for money in the downturn. Even on the net, you start seeing more of such scams happening.

Austin Real Estate Broker December 29, 2008 at 10:37 am

So this Madoff guy is pretty much the scum of the earth. I read an article about a hedge fund manager who lost 1.5 Billion with the Madoff scam and he just committed suicide. I hope the government doesn’t give Madoff a pass on charges. He ruined a lot of lives in his scam. Here’s the story about the hedge fund manager suicide. So sad.

Joe

Silicon Valley Blogger December 29, 2008 at 12:35 pm

Yes, definitely this guy Madoff ruined a lot of lives, but I also cannot believe how many of these wealthy investors are demanding to get bailed out. They’re working on some class action lawsuits against the SEC (sure, the SEC may be found negligent or potentially complicit to the fraud), but it angers me that taxpayers may very well be drawn into this again. More wealth redistribution in the works?

Madoff was an exclusive investing club that only the rich could partake in, yet at whose expense will it be once the lawsuits hit? They put their eggs in that basket, yet don’t want to be accountable?

Every man for himself is it? I am not sure how the scams of the past have been handled — they may just have stopped with the SIPC resolving things (say with Enron), but with the gargantuan Madoff scam, who knows whether the government will be handing out consolation money thanks to generous contributions from us taxpayers in order to appease the hurt investors.

kitty December 29, 2008 at 8:28 pm

“They’re working on some class action lawsuits against the SEC ”
Actually, if they have a case against the SEC, than so can every single person in the US who is affected by this crisis either by losing one’s money on the stock market or losing one’s job. Which before all is said end done will affect most people – in one way or another.

It can be argued that SEC’s role in this credit crisis is much larger than SEC’s role in Madoff’s scheme. After all, a number of SEC decisions contributed (if not caused) the crisis starting from the fateful decision in 2004 to exempt Lehman Brothers, Bear Stearns, Morgan Stanley, Merryll Lynch, and Goldman Sachs from leveraging limits – so that they can be leveraged 40/1 when buying CDOs. There are other stupid things SEC did that played a part in this crisis, although not quite as serious.

We can also file a lawsuit against Finch for assigning AAA credit rating to these securities well knowing that the models failed to capture any risk.

The trouble is – we may as well be suing ourselves since we are the ones that end up paying.

fathersez December 30, 2008 at 2:22 am

I agree with Clemence that quite a few more scams will be turning up. A receding tide will start exposing quite a bit of the filth that was covered when the tides were higher.

And talking about scams, a friend mentioned that perhaps Bush’s invasion of Iraq and the use of US resources for this war might just about be the winner of the biggest scam ever award.

Taxrascal December 30, 2008 at 8:47 pm

It’s interesting that the argument for bailing out his victims (that the victims will spend the money they get, and the taxpayers — stuck with the bill — will still spend the money they think they still have) is also an argument for letting ponzi schemers get away with their activities.

Russell Cavanagh December 31, 2008 at 6:40 am

Liked your post – I feel educated!

Your readers might be interested in the following:
Paul Grignon’s excellent cartoon “Money as Debt” and “Timeline of the Mortgage Crisis”.

Keep up the great work!

Silicon Valley Blogger January 4, 2009 at 1:44 pm

The latest on the Madoff victims.

Michael Sirota, a lawyer representing KML Investments, a firm claiming to have lost $80m, said: “What if SIPC needs $15 billion to compensate all the victims because this fraud is bigger than anything they imagined could happen? The government should step up with funds like it has for the banking sector and the automotive sector.”

Scam victims want to be made whole, but where will they get it?

Escape Somewhere January 6, 2009 at 9:20 pm

I dont think we should be bailing out people involved with Madoff. I think the more people we bailout we simply teach a lesson that you dont have to worry about risk because the govt will just bail you out anyway. And we are doomed to repeat the current mistakes because people are not learning to avoid excessive risk.

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