The Wizard of Lies: Bernie Madoff and the Death of Trust (51 page)

By the time the litigation deadline arrived, Picard had filed claims seeking more than $90 billion—although it could take years of litigation to collect even some fraction of that amount. That formidable pursuit of assets was encouraging to the net losers in the case—and the occasional Wall Street speculator who had bought up valid claims for twenty or thirty cents on the dollar, hoping to recover more when the case was finally settled. But the blizzard of big-ticket lawsuits brought a bitter chill to the net winners, who, under prevailing law and court decisions, seemed unlikely to share in a penny that Picard might retrieve. Unless and until all the net losers recovered all their lost cash, the net winners simply had no place at the table.

With their claims denied by Picard, and his action upheld in the bankruptcy court and not yet reviewed in the Court of Appeals, some net winners turned to Congress for help. Since early in the year, they had been seeking legislation to require SIPC to accept the final account statements of Ponzi scheme victims as proof of the amount they had lost, regardless of how much cash they had paid in or had taken out.

By summer, some net winners were lining up, reluctantly, behind a bill called “The Ponzi Victims Bill of Rights.” The bill was, at best, half a loaf for them because it did not include the “final account statement” rule that was at the heart of their demands. But the leaders of one organized group of victims argued that it would at least spur hearings and an investigation that, “combined with our extensive lobbying efforts, will enable us to pursue necessary modifications.”

Despite their lobbying, the bill did not emerge from committee before the end of the congressional term. But, in late December, a few supportive members of Congress promised to introduce a stronger replacement for the bill after the new term began in January 2011.

As written, this new bill would prohibit a SIPC trustee from filing any clawback cases against innocent Ponzi victims and require him to honor the investors’ final account statements, unless they were Wall Street professionals who “knew…or should have known” about the fraud but did not warn regulators about it.

This proposed “Equitable Treatment of Investors Act” did not prohibit all clawback lawsuits. But the bill, submitted in February 2011, would bar a trustee from trying to recover money that an innocent investor withdrew from a Ponzi scheme before it collapsed. The ban would shrink the universe of investors from whom the trustee could recover cash, thereby reducing the odds that net losers could be made whole. Most intriguingly, the bill codified the notion that only brokers and investment advisers belonged in the category of those who “should have known” that Madoff was a crook.

Under the bill, Picard would have been barred from suing some of Madoff’s richest and most sophisticated investors, who were neither brokers nor money managers. Moreover, these “civilian” investors had final account statements showing huge balances; they could have filed claims for hundreds of millions of dollars, further reducing the cash available for net losers. Picard would have had to honor those claims unless he could prove the individuals actually knew about Madoff’s fraud. By contrast, if a newly licensed mutual fund salesman was a net winner in a Ponzi scheme, the bill seemed to offer him little protection against clawbacks, no matter how unsophisticated he might be.

Some of the net winners could justifiably argue that Picard should not try to recover money they didn’t have or could not repay without beggaring themselves. But if a net winner qualified under SIPC’s hardship program, Picard left him alone. Within weeks of the litigation deadline, more needy net winners had applied and qualified, and the cases against them were dismissed. By December, Picard had foregone his claims against more than two hundred net winners who could not afford to repay their fictional profits.

This anti-clawback bill, however, did not seek to extend SIPC protection to indirect investors in a Ponzi scheme. The thousands of people who had invested through Madoff feeder funds were as frustrated with SIPC as the net winners. Their claims, too, had been denied by the trustee, not because they had received fictional profits but because they hadn’t had accounts in their own name at Madoff’s brokerage firm. The feeder fund that took their money was the “customer” eligible for SIPC relief. To recover any money from the bankruptcy, they would have to get it from their feeder fund, assuming the feeder fund had a valid claim.

More than ten thousand indirect investors filed claims with Picard and were turned down. Whether Picard was entitled by law to deny their claims was one of the knotty problems that remained before the courts two years after Madoff’s arrest. Indirect investors had trusted the feeder funds with their initial investments—and, under prevailing law, would have to trust them, or some corporate parent standing behind them, for any recovery from the Madoff bankruptcy. In the case of many small or bankrupt feeder funds, unfortunately, that was a bleak hope that assured investors of little except years of litigation.

In the days and weeks after Madoff’s arrest, the search for his accomplices dominated the public’s attention. By the second anniversary of that arrest, he and two other men—the indispensable Frank DiPascali and the negligent accountant David Friehling—had confessed. Five other people stood accused of sustaining the Ponzi scheme, but all had proclaimed their innocence and were preparing to fight the accusations in court. Prosecutors insisted at every opportunity that the criminal investigation was continuing, but they also explained that the burden of proving guilt “beyond a reasonable doubt” was far heavier than the burden of proof required in civil cases filed in bankruptcy court, no matter how conclusive and dramatic the allegations in those cases seemed.

The days and weeks after Madoff’s arrest also ignited angry demands for reform—at the SEC, at SIPC, and in the courts where the two agencies’ work was carried out. Under Mary Schapiro’s chairmanship, the SEC had undergone one of the most sweeping reorganizations in its history. Its enforcement branch was given new tools—an expanded bounty system for whistle-blowers, a streamlined process for serving subpoenas, a simpler management structure that put more boots on the ground in the fight against fraud, improved training programs for its lawyers and investigators—and more money to deploy them. Future budget cuts could undermine these gains, but there was clearly a new fearlessness in the agency’s enforcement agenda and broader support for its mission in Congress—where, just two years earlier, one congressman had condemned the SEC as “the enemy.”

Schapiro sat on a Fordham Law School panel in late September 2010 with two former SEC chairmen—both Republican appointees—who publicly praised her for almost single-handedly preserving the commission’s independence when it was most at risk. “If you didn’t do anything else but save the agency, it’s a pretty good start,” said Richard Breeden, who headed the commission from 1989 to 1993. Harvey Pitt, the chairman from 2001 to 2003, seconded the compliment, saying that Schapiro had stepped in “at a time of real crisis.”

At SIPC, change came far more slowly but seemed inevitable. Prodded by congressional committees weighing various legislative proposals, some wiser than others, the organization itself set up a task force to study and address the many weaknesses the Madoff scandal exposed. As for the bankruptcy and litigation process, the questions posed by the Madoff case would take years to resolve. How should losses be calculated? Who had the right to file claims? What responsibility, if any, did hedge fund managers, accountants, bankers, and financial advisers have for failing to detect this massive fraud? Could the SEC itself be held accountable in the courts?

Finally, in the days and weeks immediately after Madoff’s arrest, recovering anything for his victims looked like something only a real wizard could achieve.

Just over 16,500 claims had been filed by the end of 2010. About two-thirds of those were from indirect investors who could not collect anything unless the courts ultimately decided otherwise. About 120 of the claims were withdrawn. More than 500 claims remained in the pipeline—these were the largest net losers, with combined losses that Picard estimated at $14 billion, although he knew that this figure could change as disputes were resolved. About half of those thorny cases were already in litigation, and many more probably would be.

Of the remaining claims, by year end Picard had denied more than 2,700 claims from net winners and approved just over 2,400 claims from net losers, whose verified cash losses totaled just under $6 billion.

So, on the second anniversary of Madoff’s arrest, Picard had about $2.5 billion to cover losses he estimated conservatively at $20 billion—a dime on the dollar. He had hopes of paying more, of course, but you can’t put hope in the bank and write checks on it. Sheehan’s indefatigable legal team had sued various defendants for $90 billion, but actually collecting more than a modest fraction of that would take another act of wizardry.

Still, a dime on the dollar—even twice or three times that, if Sheehan won as much in court as Picard thought possible—was far more than anyone had expected in the dark spring of 2009.

A week after that second anniversary, the arithmetic for the net losers changed dramatically—indeed, it changed so dramatically that it made history, as so much about Madoff’s saga did.

Friday, December 17, was a day that David Sheehan had sometimes feared would never arrive—and a day that federal prosecutors had delayed for months in their determination to get the best outcome possible for Madoff’s victims. It dawned bright and very cold, with a bitter wind whipping around the towers of Foley Square in downtown Manhattan. Even before U.S. attorney Preet Bharara announced that he would hold a press conference at noon to announce a settlement with the estate of longtime Madoff investor Jeffry Picower, the news broke on the Internet. Lawyers for Picower’s widow had reached a global settlement with the government and the trustee totaling $7.2 billion. It was the entire amount Irving Picard had sought in his original lawsuit; it was $2.2 billion more than the trustee might have gotten without the prosecutors’ intervention in the negotiations months before.

And it was the largest single forfeiture in American judicial history.

The press conference was held in a small, oddly shaped area in the lobby of the U.S. attorney’s headquarters, the gritty corrugated concrete walls partially lined with deep blue velvet drapes. Overhead, a giant mobile of spatter-painted metal tubes and spheres dangled from the two-story ceiling. Four rows of cheap metal folding chairs had been set up in front of a picket line of television cameras. At 12:15
PM
, a door framed by the velvet drapes opened and a fleet of people entered and lined up a little awkwardly along the walls: David Sheehan, looking pugnacious; Irving Picard, in a bland gray suit; two SIPC executives, in a dim corner; senior officials from the New York offices of the FBI and the IRS; and a host of young prosecutors led by their boss, the U.S. attorney for the Southern District of New York.

Preet Bharara, a striking man with thinning dark hair and an eloquent, confident manner, stepped immediately to the lectern as photographers crouched and scuttled from side to side, looking for a camera angle that would capture him with Irving Picard over his shoulder.

“Today’s truly historic settlement with the estate of Jeffry Picower is a game-changer for Madoff’s victims,” Bharara said, reading from a bracing script. “By returning every penny of the $7.2 billion her late husband received from [Madoff’s firm] to help those who have suffered most, Barbara Picower has done the right thing.”

The amount that Barbara Picower had handed over represented the difference between the cash her husband had withdrawn from his Madoff accounts and the amount he had put in—which was estimated at just under $620 million. But it did not represent all of her immensely wealthy husband’s estate. What was left would be used to create a new Picower Foundation, which would continue the couple’s philanthropy. Their longtime lawyer and adviser, Bill Zabel, had spent more than a year forging a global agreement that would allow Barbara Picower to get on with her life and her charitable work. As the press conference was being held downtown, Zabel’s Midtown office released a statement on the widow’s behalf: “I believe the settlement honors what Jeffry would have wanted, which is to return this money so that it can go directly to the victims of Madoff. I am absolutely confident that my husband Jeffry was in no way complicit in Madoff’s fraud…. I was a witness to his integrity in our marriage and in his life during our 40 years together.”