No One Would Listen: A True Financial Thriller (24 page)

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Authors: Harry Markopolos

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Even worse, one of my cases involved a midlevel whistleblower at a bank-owned mutual fund subsidiary that was allowing a few hedge funds to trade its mutual funds after hours, a felony known as late trading. When I told one of the SEC’s top enforcement attorneys about that, he told me that in a few weeks this bank was going to be purchased by a much larger bank, and the Federal Reserve wouldn’t appreciate our starting this case now, because it could gum up the merger. “It doesn’t serve any purpose to go after them now,” he said.
 
On paper, as well as in reality, I was no longer a rich man.
 
I was truly incredulous. I asked him, “What about the billions of dollars taken out of mutual fund shareholders’ pockets?” The SEC had no answer for that. While I would have loved to pursue these cases, there was nothing I could do. I had to drop them. Without the support of the SEC it was simply too dangerous for my whistleblowers to blow any whistles. They might very well have lost their jobs and been placed on the industry’s blacklist. It just wasn’t fair to these brave men and women or their families that they would have to suffer severe financial hardship just because the government agency charged with being the industry’s watchdog was deaf, blind, and mute.
 
It was then that I began to understand that the SEC is a government agency that had been captured by the private industry it was created to regulate. The mission of the agency supposedly was to protect investors from the financial predators in the industry; instead it was protecting those financial predators in the industry from the investors. The people charged with regulating the industry were primarily concerned with their own paychecks. They didn’t care a rat’s ass about protecting investors. And it was then that I realized that I had two opponents, Bernie Madoff and this nonfunctioning agency that seemed to me to be doing everything possible to insulate him.
 
I have a temper; I just don’t let it out very often. It’s not productive to do so. I had learned years earlier that I got more results with honey than I did with vinegar. I also didn’t get hurt as much. As a kid growing up in a relatively rough area, I used to fight all the time. I’ve never been very big, so I lost some of those fights. I didn’t mind that—you can knock me down and you can beat the hell out of me, but I’m going to be ready to fight you again tomorrow. In this instance I contained my anger; there was nothing to gain by losing my temper. So I took this intellectual beating and I got up the next day to fight again.
 
I was left with a box of evidence piled up in the middle of my office. This small mountain of cardboard and paper documented a theft of $20 billion that the SEC was going to allow these companies to get away with. I decided to see if the Massachusetts Securities Division would be interested in pursuing these cases. For me, this was also sort of a test. If the state would aggressively pursue these cases, I would hand them Madoff. My local state representative at that time, a wonderful woman named Kathleen Teahan, lived only a few blocks from me. I often saw her on the streets of our small town, and one day I happened to run into her, ironically in front of the bank. I have a problem, I told her. I’ve uncovered several cases of securities fraud. A lot of people were being victimized, and I thought it might be something William Galvin would be interested in.
 
No elected official has ever done a better job for a constituent than Kathleen. Without knowing all the details, she arranged a meeting for me with two senior members of Galvin’s staff, picked me up in front of my house and drove me to the statehouse, accompanied me into the meeting room, and introduced me to the people I was scheduled to meet with. Unfortunately, that was all she could do. I explained to them that I had several cases in which mutual funds were making millions by market timing and that the SEC was not interested in enforcing any of its investor protection statutes. I pointed out to them that my cases didn’t involve fraud against the government—these companies had defrauded citizens of the state. Then I asked, “Does the state have a bounty program?” It did not. “Would you be willing to enact one?” Nope.
 
While these were nice people, and maybe they even wanted to do the proper thing, I was not impressed with their knowledge of the securities laws. I had considered trusting them with my biggest case, Bernie, but the market timing meeting went so poorly that I never said a word about it.
 
For me, of course, it meant that I wasn’t going to earn any money for more than a year’s work. The bounty that I had expected was never going to be paid, but by far the most difficult task I had was telling my whistleblowers that the government had not accepted their case. These were heroes, people who had risked their careers, as it turned out, for nothing. It was very difficult for some of those people to ease back into their regular routines. Now they understood why the goddess of justice was wearing a blindfold.
 
My Madoff team was now split up and living in four different places. I was in Boston; Neil was in Tacoma, Washington; Frank was in Manalapan, New Jersey; and Mike remained in New York. But our investigation never stopped; it never even slowed down. The investigation of Bernie Madoff simply had become a part of our lives—it no longer had any specific objective or end in sight. We kept doing it because we had been doing it, and I think the surreal aspect of it amazed us. We had discovered the largest financial crime in history. Many people knew about it, and apparently there was no mechanism available to stop it. I had considered approaching law enforcement—the Federal Bureau of Investigation (FBI), for example—but it seemed obvious to me that if the federal agency charged with stopping this type of criminal activity couldn’t find the crime, the people at the FBI certainly wouldn’t take my charges seriously. And even if they did, it was very doubtful they would understand it. By 2004 the FBI’s focus was on catching terrorists, and it had been busy transferring agents from white-collar fraud to counterterrorism units.
 
During the years we continued working on this case, several huge Wall Street crimes had been uncovered. Among them, Tyco’s CEO Dennis Kozlowski supposedly had taken more than $400 million in unauthorized bonuses from his company and used some of that money to buy $700 office garbage pails and throw a multimillion-dollar Roman-orgy-themed birthday party in Sardinia for his wife’s 40th birthday; Enron’s Ken Lay and Jeff Skilling had bankrupted that company and defrauded millions of energy consumers of billions of dollars; and WorldCom’s Bernie Ebbers had been convicted of using phony accounting to defraud investors of as much as $11 billion. As each of these crimes made headlines, law enforcement and other people on Wall Street made somber statements about how they were taking steps to make sure that kind of fraud couldn’t happen again, and what they were doing to protect investors. There was nothing we could do but laugh at them. I had told them about an ongoing crime that dwarfed the rest of them, a fraud that would directly affect more lives than any of the others, and they just didn’t care. So we just kept going. The situation was crazy and we knew it, and we made a lot of jokes about it because there was simply nothing else we could do.
 
We were actively tracking 20 feeder funds that we knew had Bernie. We spoke on the phone from time to time, but communicated mostly by e-mail. I still hadn’t even met Mike Ocrant. Neil, in particular, was in a much better position at Benchmark Plus to gather information than he had been at Rampart. Shortly after Frank had been hired by Benchmark, we had lunch in Manalapan with Scott Franzblau, a Benchmark partner and the head of marketing. I assumed that Manalapan was an Indian word for cornfields and cows, because that’s all that surrounded Benchmark’s office. The nearest place to eat was a golf club more than a mile down the road, and we had lunch there.
 
It’s probable that Frank had already warned Scott about Madoff, because Scott already knew that he was a fraud. I remember him shaking his head in disbelief as we went through some of our evidence. He got it. After that he continued to be supportive of Frank‘s—and later Neil’s—efforts to gather additional evidence against Madoff. He knew Bernie was polluting his pool, and he wanted him out. I like to think Scott was typical of managers in the industry in this regard, but I’m not certain that’s so. Unfortunately, there were too few bosses like Scott encouraging their employees to do the right thing. Too many others discovered that Madoff was a fraud and kept that information to themselves.
 
In his position at Benchmark, Neil met and spoke to literally thousands of managers working at hundreds of different funds, among them Fairfield Greenwich and Oppenheimer’s mutual fund, Tremont, which we later learned had invested $3.3 billion with Madoff. Because Neil had hundreds of millions of dollars to distribute, these funds were happy to open their kimonos for him, giving him more access to information than we had ever gotten before. He was collecting year-end financial statements and copies of model portfolios; these managers were thrilled to answer every question he asked. Because Neil had the mathematical background that Frank lacked, he was able to gather far more detailed information than we’d ever gotten before.
 
Because I had left the industry, I was no longer able to gather information. Instead I would regularly collect all the new material sent to me by Frank, Neil, and Mike, then spend hours in my office integrating it with what we already had. I was analyzing everything, writing the reports, and, finally, contacting the government. By choice, I was the point man, the only one visible to the enemy—or enemies. I’d long ago given up any hope of ever earning any money from this work—we all had—but it had to be done and we were doing it. If we didn’t do it, who would? Way back in 2000, I’d thought we had more than enough to nail Madoff, but since that time we had uncovered so much more information.
 
As a result of hundreds of conversations, pouring through thousands of pages of documents, and even my trip to Europe, we had identified more than 17 new red flags since that first submission. Probably the most glaring was the fact that Madoff was voluntarily giving up huge profits. Nobody any of us ever knew in the industry voluntarily left money on the table—except for Bernie. Had Madoff been operating as a hedge fund, he would have been charging 1 percent management fees and 20 percent of the profit, which in his case would have been about 4 percent annually on the amount of assets he managed. Instead he was supposedly happy receiving only commissions for the trading he claimed he had conducted. He was earning less than the funds that were doing nothing but handing him money. That made no sense. Who knew Bernie was such a giving soul? But it turned out that was the core of his scheme. By giving the funds the lion’s share of the fees, he got them to continue raising money for him. The nice way of describing it is that he was overcompensating them; the less nice way is that he bought their souls.
 
Although, this being Wall Street, you have to question the assumption that they had souls.
 
In fact, when we examined the financial structure of his operation, there seemed to be no logical reason for him to be in business. Running his fund actually was costing him a fortune, in addition to the immense time and effort it required to keep it going. Bernie needed money to invest. Assuming the profits he returned to his investors were his cost of getting that money, it would have been substantially less expensive for him simply to borrow the money from short-term credit markets.
 
This red flag would have been waving in the face of anyone with a financial background or enough fingers and toes to figure out the difference between the average 12 percent annual return investors received and the smaller interest rate at which Bernie could have borrowed the money. Why would a sane person go to all the trouble of running a complicated business that actually cost him money? Particularly considering the fact that he was already running a major business, his broker-dealer arm.
 
Then there was the super-duper secret oath that he supposedly made all his clients adhere to. This was perhaps the only successful business in history that not only rejected all publicity, but in fact warned clients that if they revealed any information about their investment with Madoff they risked having their money returned. They would be thrown out of the money club! In an industry where the huge funds boasted about their size as a way of attracting new clients, this was not only unusual; it was absurd. It made no sense at all.
 
I also had kept a list of the various explanations for these and other generally inexplicable problems that we had gotten from the feeder fund managers. This included the claim that he subsidized the down months from his broker-dealer arm to keep his investors satisfied and that he had perfect market timing ability. Conversely, it was obvious, at least in my opinion, that the largest investment firms either knew or suspected that Madoff was a fraud. None of them—Merrill Lynch, Citigroup, Morgan Stanley—had invested with him. In fact, a managing director at Goldman Sachs’s brokerage operation admitted to me that they didn’t believe Madoff’s returns were legitimate, so they had decided not to do business with him.
 

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