March/April 2009

Bernie Madoff: Mystery Man

The man accused of running one of history’s largest Ponzi schemes remains as mysterious today as when he turned himself in on December 11. Moment senior editor Nonna Gorilovskaya interviews Mitchell Zuckoff, author of Ponzi’s Scheme: The True Story of A Financial Legend, in hopes of shedding light on the former NASDAQ chairman whose alleged $50 billion fraud has wreaked havoc in the Jewish world and beyond.

Moment: Who was Charles Ponzi and what’s a Ponzi scheme?
Mitchell Zuckoff: Charles Ponzi, an Italian immigrant to the United States, came up with an idea in 1919 that would make him and many other people rich. He was trying to do something legitimate: to use international postage coupons [coupons bought for stamps in one currency that could be exchanged for higher value in another currency] as a way to make money in foreign exchange. He was going to buy them in bulk in European countries whose currencies were depressed in the wake of World War I. He imagined bringing these postage coupons back to the United States and transferring them into cash at the higher dollar value, but he had two problems: He didn’t have any money to buy them, and it turned out it was logistically impossible to buy enough to make it a worthwhile investment. To solve the first problem, he started collecting money with the promise of huge returns—“double your money in 90 days.” When he couldn’t solve the second problem, he came to rely on the old financial fraud of robbing Peter to pay Paul, using later investors to pay promised returns to earlier investors. That’s a Ponzi scheme.

How did Bernie Madoff’s alleged scheme work? Was it similar?
Structurally, it apparently was quite similar. People were told their money was being invested in blue chip stocks and treasuries and other wonderful investments. But from all indications, Madoff was simply using the money from one group of investors to pay off other investors.

What sets apart successful schemers?
This is a con game; con is short for confidence. These people have an ability to generate confidence in the people around them. Ponzi had tremendous charisma and charm. Madoff clearly generated a tremendous feeling of trust among the people investing with him. I also think there is a commonality in the lack of remorse.

What was the role of charities in Madoff’s scheme?
It hasn’t been proven yet, but I strongly suspect that Madoff saw charities, foundations and endowments as the perfect solution to a big problem. A Ponzi schemer worries that there will be a sudden outflow of money. If that happens, it’s like a run on the bank—the money isn’t there. But if you attract investors who can be counted on to leave their money or most of their money in perpetuity, you reduce the risk of ever having that run on the bank. Charities, foundations and endowments usually take out a little bit of money every year, somewhere around five percent, especially foundations. They are required to take that amount by federal law. That means all Madoff had to do to keep a Ponzi scheme rolling was replace five percent of the principal—not impossible by any means. If this proves correct, it’s really going to reveal just how little conscience he had—using people this way and using charities and foundations for personal purposes, ignoring the good that they do. That borders on psychopathy.

Are Ponzi schemes easier to carry out by targeting ethnic groups?
Absolutely. These are called affinity scams. The scammer develops or uses natural affinities or relationships. People feel comfortable with others who are “like” them. People who are members of the same church, the same country club, the same community and alumni of the same college are all useful tools for an affinity scammer. Madoff used his prominence in the Jewish community as a feeder system. He was known among his investors as the Jewish T-bill.

Were Jews disproportionately affected by Madoff’s scheme?
Some of Madoff’s more recent investors knew no ethnic boundaries, but a disproportionate number of individual and institutional investors were Jewish.

How has Madoff’s ethnicity been factored into media coverage?
The focus on Madoff’s ethnicity has been grotesquely overblown. Some early reports focused on his prominence in the Jewish community to a disproportionate level. Madoff was not a rabbi. He occupied no official position in the Jewish community. I wish I had been the one who said this, but no one described Rod Blagojevich as “the prominent Serbo-Croatian governor of Illinois.” Nobody felt the need to point out his ethnic roots when he was acting in a way that was demonstrably corrupt, even though the Serbo-Croatian community of Illinois clearly played a big role in helping Blagojevich get elected. Anti-Semitism is bleeding through somewhat.

How did Madoff’s scheme unravel?
Ultimately he couldn’t meet the demands. Because of the economic downturn many people were pulling out a lot of money all at once, and he couldn’t replace the outflow with more income, which is the death of any Ponzi scheme. I think that he was able to operate as long as he did partly because of a regulatory failure. The SEC had him in its sights multiple times and horribly failed in its responsibilities.

How many people would have had to have known and willingly or somewhat willingly been aiding Madoff all these years?
It’s very difficult for me to imagine that he didn’t have help. I’ve seen the documents that Madoff spit out every quarter and just inputting that data was time-intensive. Was he using people who were completely in the dark and instructing them on trades to claim as having been made when they had never been made? It strains credulity to accept that no one was helping him.

What’s the longest running Ponzi scheme?
It’s impossible to say; we simply might not know about the longest running Ponzi scheme until it’s exposed. It’s conceivable some ongoing ones might have been in operation for decades or more.

What lesson should people learn?
The oldest lessons of finance apply. One, if it sounds too good to be true it probably is. Number two, diversity in finance doesn’t just mean different kinds of investments, it also means not putting all your eggs in one basket. Another lesson I would say is probably that….Well, let’s leave it at those two. If people just take those two away, I’ll feel better.