Tuesday, December 30, 2008

UPB & Madoff: Custody Again

Today's Wall Street Journal featured an article in the Money & Investing section detailing Union Bancaire Privee's attempts to explain how it became entangled with Bernie Madoff. According to the piece, half of the bank's 22 funds were invested, to varying degrees, with Madoff.

To me, the most revealing passage was this one,

"..UBP said it had reservations about the way Mr. Madoff ran his investment firm, particularly the lack of an outside administrator and custodian (my bold), which would have provided an added degree of certainty that the investments Mr. Madoff claimed to have made were real. But UBP said it overcame those concerns because of Mr. Madoff's firm's status as a "reputable" broker-dealer that was registered with the Securities and Exchange Commission (my bold), as well as Mr. Madoff's longstanding reputation in building Wall Street's financial markets infrastructure."

As I wrote here last week,

"As I reviewed the mechanics of Madoff's scheme of undisclosed numbers of individual accounts, rather than a single, explicitly-spotlighted fund, with my partner, my belief that Madoff had long ago discovered loopholes that I, too, observed earlier this decade grew significantly.

The most important element of his fraud, without question, was the lack of independent custodial inventory reports of financial assets held in accounts for clients. I can't emphasize enough that this alone left every one of Madoff's clients vulnerable."

So, it seems that even a veteran, experienced private bank looked the other way and simply through prudence and common sense to the wind. They let an unrelated aspect of Madoff's investment business- his separate, registered broker-dealer- color their choice of him as an investment manager.

Anyone in the business knows that just because business A is regulated and supervised by the SEC means nothing about a business B, which is not registered.

But, apparently, UBP's staff knew better. Or so it thought.

These are called "con" games for a reason. Short for "confidence," the schemes always work by getting the mark, er, investor, to trust the fraudster, and give him their confidence.

Surprisingly, that's how easy it was for Madoff to accomplish his fraud. Whether he ever had an investment approach that made money is actually immaterial. And always was.

We now see that he managed to dupe the most experienced banks in the business, simply due to gaining their trust on bases other than his investment performance, a thorough review of his methodology, or any other typical object of due diligence.

Leading me, once more, to state that everyone who lost money with Madoff deserved to, because they were motivated by sheer greed. Greed that overwhelmed diversification and common sense investigations that any other investment manager would have had to undergo.

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