Tangled Webs (66 page)
Authors: James B. Stewart
Tags: #History, #United States, #General, #Law, #Ethics & Professional Responsibility
And if Renaissance executives couldn’t figure out what Madoff was doing, who could? To Thanasules, the e-mails raised a host of troubling questions and carried extra weight because they came from Renaissance. He called the compliance officer at RenTec, who said that Meritage had reduced its exposure to Madoff, though not because of the concerns expressed in the e-mails. Still, Simons later said that “we were very worried about the position” and cut it in half because of the concerns expressed in the e-mails. He added that they would have eliminated it entirely except for one reason: they understood that the SEC had examined Madoff and given him a clean bill of health. But eventually they got rid of it entirely.
Armed with copies of the e-mails, Thanasules went to his supervisor, branch chief Diane Rodriguez. The facts they alleged–a nonindependent auditor, incomprehensibly consistent returns with near-perfect timing, and, most of all, Broder’s inability to identify any trading volume or counterparties essential to execute the strategy–led Thanasules to wonder “whether Madoff is doing these trades at all,” as he described his thinking. On April 20, he sent an e-mail to Rodriguez:
Good afternoon, Diane.I wanted to inform you I have started reviewing the e-mails they provided. Certain e-mails have come to my attention that appear to raise questions about another entity, Bernard L. Madoff Investment Securities. As far as I know right now Madoff is a registered broker-dealer.
He attached two of the e-mails and continued:
Diane, these are some e-mails I have reviewed. At this point I spoke to the compliance officer regarding Madoff who informed me that they have reduced their investment in this vehicle but not due to anything referenced in the aforementioned e-mails. At this point I do not know any further details, however, I am currently putting together a request list, asking for due diligence folders, type of information they receive regarding their investment, etc. Anyway, I will call you in a few minutes to hear your thoughts. Thank you.
Rodriguez, in turn, passed the e-mails to her superior, Dorothy Eschwie, who referred them to Robert Sollazzo, who was co-head of the broker-dealer examination program. He responded to Eschwie on May 11:
We believe this matter is worthy of an examination when resources permit. Since the trading appears somewhat complex, we will have to assign an experienced examiner who has a sophisticated knowledge of options. When the time is right we will strike.The story, especially the consistent high returns earned over an extended period, makes you wonder.
E
ight months later, Sollazzo referred the Madoff case to John Nee, the division’s assistant director. Nee had been working at the SEC since 1991, shortly after his former employer, Drexel Burnham Lambert, imploded in the wake of the Michael Milken junk bond and securities fraud scandal. (Nee worked at Drexel as a mutual fund accountant, not in Milken’s Beverly Hills junk bond operation.) Sollazzo also recruited two young examiners, Peter Lamore and William Ostrow.
ight months later, Sollazzo referred the Madoff case to John Nee, the division’s assistant director. Nee had been working at the SEC since 1991, shortly after his former employer, Drexel Burnham Lambert, imploded in the wake of the Michael Milken junk bond and securities fraud scandal. (Nee worked at Drexel as a mutual fund accountant, not in Milken’s Beverly Hills junk bond operation.) Sollazzo also recruited two young examiners, Peter Lamore and William Ostrow.
Sollazzo especially wanted Lamore, since he was one of the few examiners who had firsthand experience working for a hedge fund and trading options, and had waited to begin the examination until Lamore was available. Lamore was stocky, with neatly clipped brown hair. He had the upright demeanor of a military man, and he’d spent five years in the U.S. Coast Guard after graduating from the Coast Guard Academy. After earning an MBA degree at New York University, he’d worked for two years at Millennium Partners, a large hedge fund run by Israel Englander, and had worked as a trader at several smaller firms before joining the SEC in late 2003. In the ensuing year he’d worked on just four broker-dealer examinations. Ostrow had more experience, having been at the SEC for five years. He joined the agency right after graduating from the New York Institute of Technology with a degree in finance.
Lamore and Ostrow started with Thanasules’s and the Renaissance e-mails, along with the articles from
MAR/Hedge
and
Barron’s
. Lamore read the Renaissance e-mails carefully, making notes in the margins, as well as the articles, raising specific questions about who might be on the other side of Madoff’s trades. But Ostrow read only “snippets,” as he later recalled, and in his years as an examiner had come to be skeptical of what he considered “tips,” which he felt should be taken with a “grain of salt.” Unlike Thanasules, who’d called the Renaissance compliance officer, they didn’t get in touch with anyone at Renaissance to ask for any more information about Madoff, the e-mails, or the status of the fund’s exposure to Madoff. Lamore believed SEC policy was to take questions directly to the firm being examined, not to outsiders, so as not to fuel rumors that a firm might be under investigation.
MAR/Hedge
and
Barron’s
. Lamore read the Renaissance e-mails carefully, making notes in the margins, as well as the articles, raising specific questions about who might be on the other side of Madoff’s trades. But Ostrow read only “snippets,” as he later recalled, and in his years as an examiner had come to be skeptical of what he considered “tips,” which he felt should be taken with a “grain of salt.” Unlike Thanasules, who’d called the Renaissance compliance officer, they didn’t get in touch with anyone at Renaissance to ask for any more information about Madoff, the e-mails, or the status of the fund’s exposure to Madoff. Lamore believed SEC policy was to take questions directly to the firm being examined, not to outsiders, so as not to fuel rumors that a firm might be under investigation.
The name Madoff meant little to either Lamore or Ostrow, although both knew that his firm was a large market maker. But they were soon impressed with his stature in the industry. Ostrow sent Lamore an entry on Madoff from Hofstra University’s alumni website:
The same year as his graduation from Hofstra, Bernard L. Madoff, Class of 1960, founded a successful investment firm that bears his name. Madoff Securities currently ranks among the top 1 percent of U.S. securities firms and is the third largest firm matching buyers and sellers of New York Stock Exchange and NASDAQ securities. While building his firm into a significant force in the securities industry, Bernard and his family have been deeply involved in leading the dramatic transformation that is currently underway in U.S. securities trading.Bernard has been a major figure in the National Association of Securities Dealers (NASD), the major self-regulatory organization for U.S. broker/ dealer firms. He is credited with being one of the five broker/dealers most closely involved in developing the NASDAQ Stock Market. He has served as chairman of the board of directors of the NASDAQ Stock Market as well as a member of the board of governors of the NASD and a member of numerous NASD committees. Bernard has also served as a member of the board of directors of the Securities Industry Association. . . .Bernard is a trustee of Yeshiva University and a member of the board of directors for City Center. He and his wife, Ruth, reside in Manhattan and are active in numerous philanthropic causes. They have two grown sons, Mark and Andy, who are actively involved in the family business.
Ruth; Madoff’s brother, Peter; and his niece, Shana, were also involved in the family business. Ostrow forwarded another article to Lamore, called “The Madoff Dynasty,” which extolled the family ties:
“All of his family members grew up with this being our lives. When it is a family operated business you don’t go home at night and shut everything off, so you take things home with you, which is how all of us grew up,” says Mark Madoff, director of listed trading at Madoff Securities. . . . “What makes it fun for all of us is to walk into the office in the morning and see the rest of your family sitting there. That’s a good feeling to have.”
Madoff often told the story of starting the firm with $5,000 he’d saved as a lifeguard at the beach in Far Rockaway and from installing underground sprinkler systems. Ruth, whom he’d met in college, worked as the fledgling firm’s bookkeeper. Madoff’s firm was a broker-dealer, meaning it acted both as a middleman, handling trades for others (a broker) as well as buying and selling for its own account (a dealer). Madoff handled trades for customers who wanted to trade when the stock exchanges were closed, or who wanted to trade away from the exchanges, especially since Madoff not only charged lower commissions than the members of the exchanges, but actually paid customers (like Fidelity and Schwab) to steer their order flow to his firm. It was a highvolume, very low-margin, and not very glamorous business. Indeed, by the time the SEC examiners started doing their research, Madoff Securities was paying so much to secure orders, its margins so slim, that it was actually losing millions of dollars a year on its broker-dealer business. It was subsidized by the least known of Madoff’s operations, one never mentioned in descriptions of the firm, which was an investment adviser business in which Madoff indicated he invested money for a few hedge funds and institutions. His returns from that business were so reliable that he became known to the fortunate few who invested with him as “the Jewish T-bill.”
This division had started sometime in the 1960s, initially managing money for Madoff’s family and friends. Madoff had never registered with the SEC as an investment adviser, which requires hedge funds and investment advisers to make detailed books and records available for inspection, and makes it unlawful “to engage in any act, practice, or course of business which is fraudulent, deceptive, or manipulative.” But it exempts firms with fifteen or fewer clients, which presumably was why Madoff had never registered.
While stressing his philanthropy, Hofstra, Madoff’s alma mater, said nothing about his extravagant spending and luxurious lifestyle. According to the IRS, he reported income of $250 million per year from 1998 to 2007. He owned a duplex penthouse on East Sixty-fourth Street in Manhattan with four bedrooms and five bathrooms; a palatial house with a two-story veranda, five bedrooms, and seven bathrooms on the Intracoastal Waterway in Palm Beach; a sprawling shingled “cottage” with pool on 1.2 acres of prized beachfront property in Montauk, Long Island; and an apartment villa in exclusive Cap d’Antibes on the French Riviera. There he sometimes kept his fifty-six-foot yacht,
Bull
, which featured teak decking and a hydraulic elevator. He kept two other boats in Palm Beach, a thirty-foot Runabout Sport,
Sitting Bull
, and a twenty-fourfoot Maverick,
Little Bull.
The Madoffs were fixtures at the Palm Beach Country Club; he also belonged to the Atlantic Golf Club in Bridgehampton on Long Island, the Breakers Palm Beach Country Club, and the Trump International Golf Club in West Palm Beach. His club expenses alone totaled just under $1 million a year, paid as a business expense by Madoff Securities. To reach his far-flung homes and clubs he owned a half-interest in a private jet. He drove no fewer than six luxury vehicles: a Range Rover, two Mercedes S550s, a Mercedes SUV, a Lexus, and a Cadillac. Ruth had her own Mercedes convertible.
Bull
, which featured teak decking and a hydraulic elevator. He kept two other boats in Palm Beach, a thirty-foot Runabout Sport,
Sitting Bull
, and a twenty-fourfoot Maverick,
Little Bull.
The Madoffs were fixtures at the Palm Beach Country Club; he also belonged to the Atlantic Golf Club in Bridgehampton on Long Island, the Breakers Palm Beach Country Club, and the Trump International Golf Club in West Palm Beach. His club expenses alone totaled just under $1 million a year, paid as a business expense by Madoff Securities. To reach his far-flung homes and clubs he owned a half-interest in a private jet. He drove no fewer than six luxury vehicles: a Range Rover, two Mercedes S550s, a Mercedes SUV, a Lexus, and a Cadillac. Ruth had her own Mercedes convertible.
Madoff’s firm was located on Third Avenue, in the heart of Manhattan’s East Side business district, in an oval-shaped, thirty-four-story building known as the Lipstick Building. Madoff’s operations occupied three floors, seventeen through nineteen. When Lamore and Ostrow arrived at Bernard L. Madoff Securities on April 11, Madoff himself came into the lobby to greet them. Madoff looked like Wall Street royalty, wearing a custom-tailored suit and crisp white shirt, his hair cut modishly long and swept back from his receding hairline. According to Madoff, Ostrow was wearing a baseball-style jacket with the word “Enforcement” emblazoned on the back, which annoyed Madoff. What would employees and customers think? But Madoff said nothing to betray his reaction. (The SEC disputes Madoff’s claim that Ostrow was wearing such a jacket. It insists that the enforcement division doesn’t use any such jacket and that no examiner would wear one.)
The examiners were impressed that Madoff himself–the head of the firm–was handling their examination. Usually it was the compliance officer, or someone else designated to act as a liaison with the SEC. The logical person would have been his niece, Shana Madoff, Peter’s daughter and the firm’s general counsel and compliance officer, but Lamore and Ostrow had almost no contact with her.
Madoff didn’t know why they were there, and they hadn’t wanted to tip their hand. Lamore and Ostrow may have been a little unsure themselves. They’d been given the Renaissance e-mails as a starting point, and they had the
MAR/Hedge
and
Barron’s
articles. Contrary to policy, no branch chief was assigned to supervise them. They’d never been given any formal instructions, nor had they drafted any planning memorandum. Ostrow thought the exam would evolve “just sort of as the exam progressed, notes were taken and e-mails were exchanged.”
MAR/Hedge
and
Barron’s
articles. Contrary to policy, no branch chief was assigned to supervise them. They’d never been given any formal instructions, nor had they drafted any planning memorandum. Ostrow thought the exam would evolve “just sort of as the exam progressed, notes were taken and e-mails were exchanged.”
After two days of gathering documents and reconciling account statements, they had their first official interview with Madoff. They hadn’t seen anything that suggested he was running or advising any hedge funds, so Ostrow asked a basic question: “Do you do a retail business?”
“No,” Madoff answered. “I don’t manage money.”
Madoff insisted that his firm was simply a market maker and traded for its own accounts. It didn’t generate investment advice or execute strategies. As Ostrow later put it, “According to Bernie there was no investment advisory business.”
This was an astounding proposition, since the premise of the Renaissance e-mails was that Madoff was managing money for hedge funds (including them) and generating returns that seemed impossible to explain. And what about all the feeder funds that the published reports said were funneling money to Madoff? If Madoff was simply a market maker, there was no reason for Ostrow and Lamore to be there.
Neither believed him, but Madoff managed to divert them from this line of inquiry, regaling them with stories about Wall Street trading and the evolution of the business. Afterward, Lamore e-mailed a colleague to report that the interview lasted over two hours and ended after 6:00 p.m. But he made no mention of Madoff’s startling claim, and seemed in a lighthearted mood. “Was there a storytelling class when you attended Hofstra because this guy has a story about everything? . . . Does everyone miss me in the office yet?” he wrote.
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