Investigation of Failure of the SEC to Uncover Bernard Madoff's Ponzi Scheme (Report No. OIG-509)

Claims Supported by This Source

1. The OIG found no evidence of financial or improper relationships between SEC staff and the Madoff family, nor of intervention by senior management. However, between June 1992 and December 2008, there were six substantive complaints (eight if counting different versions) and two articles in 2001, leading to three examinations and two investigations, yet a thorough examination or investigation was never conducted (pp. 20–22).
2. OIG expert: The most critical step in examining a Ponzi scheme is to verify transactions with an independent third party. The SEC never did this and, in effect, never actually conducted an examination or investigation of the Ponzi scheme (pp. 22–23).
3. 1992: A client of Avellino & Bienes complained to the SEC about an investment that was "100% safe" with consistently high returns. The SEC learned the firm had deposited all funds with Madoff, who made all investment decisions and had reportedly not had a single loss in 30 years. The SEC sued for the sale of unregistered securities and forced a refund to clients but did not trace the source of the funds. Its examination of Madoff consisted of receiving DTC records from Madoff himself and concluding that "the stock records perfectly matched the DTC participant statement dated November 12, 1992" (pp. 25–26, 47–49). A later SEC complaint (DiPascali) states that fake DTC reports were created at this time (p. 49, n. 22).
4. Three submissions were made by a Boston complainant (named in the report) in May 2000, March 2001, and October 2005. The 2001 version noted that while the S&P 500 had 26 down months, Madoff had only 3, with a worst month of -1.44% versus -14.58%. The 2005 version, titled "The World's Largest Hedge Fund is a Fraud," listed about 30 red flags and described a Ponzi scheme as "highly likely." The New York office decided not to pursue the March 2001 submission the day after receiving it (pp. 26–28, 35).
5. May 2001 articles in MARHedge and Barron's: In the past 139 months, there were only four losing months, with losses under 55 bp. Consistent returns of just over 1.5% per month, or around 15% per year. "No one can replicate the same strategy." A former OCIE director wrote on an article that it "would make a good examination," but no examination was opened (pp. 27–28).
6. In May 2003, a hedge fund manager filed a complaint ($8–10 billion in options trading volume not visible to the market, fee structure, cash at month-end, auditor was a related party, no correlation with the market for over 10 years). The examination began 7 months late in December 2003, was limited only to front-running, and a letter of inquiry to the NASD was drafted but not sent because it would "take time," and was shelved in April 2004 (pp. 28–31).
7. In April 2004, an internal email from another registered firm was found, containing a step-by-step analysis of why Madoff could not possibly be trading options. The New York office conducted an examination in March–April 2005. Madoff himself informed them that two different offices were unknowingly conducting the same examination. An inquiry to the clearing house came back with "no trades during the relevant period" but was not followed up. In September 2005, a closing report was issued relying on Madoff's verbal explanations (pp. 31–35).
8. On May 19, 2006, Madoff testified voluntarily without a lawyer, stating that trades for his advisory accounts were cleared and segregated in his own account at the DTC, and provided the account number. He later told the OIG, "I thought they would call the DTC on Monday morning and it would be over," and "I was surprised there was no inquiry." The SEC did not make the inquiry (p. 39).
9. OIG's inquiry to the DTC: A statement for one feeder fund dated January 31, 2005, showed approximately $2.5 billion in S&P 100 stocks, but Madoff's DTC account on the same day held less than $18 million. On May 19, 2006, it held less than $24 million, and on August 10, 2006, less than $28 million (proprietary positions). After the collapse, it was confirmed within days via "a single phone call to the DTC" that there had been no trades (pp. 39–40).
10. A May 16, 2006, inquiry to the NASD came back with "no options positions reported on that day" but was not followed up. A letter of inquiry to a European counterparty was also not sent. The investigation effectively ended in August 2006 with his registration as an investment adviser. After 18 months of dormancy, it was formally closed in January 2008. No examination was conducted after the registration. The staff member in charge received the highest performance rating (pp. 40–41).
11. Complaints from a "concerned citizen" in December 2006 and March 2008 regarding the commingling of large clients' assets and "two sets of books" were closed after simply asking Madoff's lawyer. The two sets of books were, in fact, real (pp. 41 and n. 5).
12. Multiple private entities decided against investing based on the same red flags. Conversely, the fact that the SEC had examined Madoff and found no wrongdoing reassured investors, which Madoff used in his solicitations (pp. 22–24).
13. After the collapse, upon obtaining the accountant's working papers, it was determined within hours that "no audit work had been performed at all" (p. 32).

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