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By: Lauren Baker Schemes & Scoundrels: Why America Fails to Prevent Fraud as Seen Through Bernie Madoff

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Page 1: Bernie Madoff

By: Lauren Baker

Schemes & Scoundrels: Why America Fails to Prevent Fraud as Seen Through Bernie Madoff

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•Class: see Outline•Introduction•Topic/Thesis•Ponzi Scheme Basics•Bernie Madoff Background•SEC Failures•Possible Solutions•Other Considerations

Overview

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Topic/Thesis

Fraudulent investment schemes occur because of the lack of regulation and inadequate oversight of certain financial intermediaries and opportunistic behavior. The following paper will view the problems and issues related to this topic as seen through the recent Ponzi Scheme conducted by Bernard Madoff from 1960-2008. The financial regulatory scheme in the United States needs to be restructured in order to become effective at preventing fraudulent investment schemes.

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Ponzi Scheme Basics

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Background

•1857 Little Dorie by Charles Dickens•1920s Charles Ponzi•1960 Madoff Securities founded•1992 SEC Investigation•1999 Frank Casey & Harry Markopolos•2000 SEC Investigation•2001 SEC Investigation•2002 SEC Investigation•2005 SEC Investigation•2006 SEC Investigation•2007 SEC Investigation•2008 Madoff Securities is largest market maker on Wall Street•December 10th, 2008 Madoff confesses to his sons•December 11, 2008 Madoff is arrested by FBI officers•December 23, 2008 Thierry de Villehuchet commits suicide•June 29th, 2009 Madoff sentenced to 150 years in prison•December 11th, 2009 Madoff’s son commits suicide

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Madoff SecuritiesAs A

Ponzi Scheme•Secrecy and exclusion•Split-strike conversion• Part I Basket or Grouping• Part II Call Options• Part III Put Options

•Feeder Funds, Funds of Funds, Hedge Funds• Marketing Firms raising capital versus

Hedge Funds•17th floor vs. 19th floor of the Lipstick Building•Keep your friends close and your enemies closer?

•Income• Stock Price Appreciation• Stock Dividends• Income from Selling Call

Options•Loss

• Stock basket or grouping declines

• Purchase of put options (which protect your stock basket from market price declines)

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SEC Failures

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Congressional Hearing-Markopolos

SEC v. Markopolos

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Possible Solutions• SEC

• FSOC (Sec. 112 Council Authority)• Good because links various financial regulatory bodies in the United States

together• Cross-Pollination of Tips

• FSOC should promote sharing information, tips, information, and evidence to protect the United States financial industry against fraudulent investment schemes

• Employees of the SEC• Comparable Salaries to draw more qualified employees• Results Bonuses based upon successful and meritorious investigations• Qualifying Test in order to become an employee (i.e. CPA exam, Patent Bar exam)• More Economic/Financial Backgrounds versus Over-Lawyering the Commission• Fraternization, Continuing Education, and Piercing the Financial Industry• Evaluation/Review of employees• Turnover/Revolving Door• Pink Slips to employees who do not perform consistently

• Investment/Financial Advisors• Current registration requirements need to be changed (all persons that purport to be

investment advisors or financial advisors need certification, qualification standards, and registration requirements in their State of practice and Nationally through the SEC pursuant to Investment Advisors Act of 1940)

• Examples of Associations: • National Association of Personal Financial Advisers• Financial Planning Association• Certified Financial Board of Standards• American Institute of Certified Public Accountants

• Funding (need more of it; average around $1 billion annually from Congress, but there are statutory maximums under the Dodd-Frank Act)

• Funding comes from Congress approved budget and from activities internal to the SEC (i.e., Similar to the DEA)

• Company registration (investment firms and other entities have SEC fees) which go to the General Treasury when they should go to the SEC

• 3 times the penalty and goes straight to SEC versus IRS coffers• Impoundment of assets

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Other Concerns

• Why are Ponzi schemes successful?• Opportunistic Behavior and

Greed• Trust• Over-optimism (i.e., Due

Diligence diminished because naïve and over-optimistic)

• Procrastination (i.e., Inadequate monitoring and sitting idly by)

• Bounded Rationality due to complexity (i.e., Split Strike Conversion strategy)

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Questions & Answers