Madoff Tipster Markopolos Cites SEC’s ‘Ineptitude’

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Madoff Tipster Markopolos Cites SEC’s ‘Ineptitude’


By Jesse Westbrook, David Scheer and Mark Pittman

Feb. 4 (Bloomberg) -- Harry Markopolos, a former money manager who sought to convince regulators for nine years that Bernard Madoff was a fraud, said the U.S. Securities and Exchange Commission suffers from “investigative ineptitude.”

Markopolos told Congress today that he contacted the SEC in 2000 after examining Madoff’s investment strategy and determining in four hours that returns exceeding 10 percent weren’t possible. Markopolos, in almost a decade of communication, said only one SEC staff member understood Madoff’s scheme and “the threat it posed to the public.”

“My experiences with other SEC officials proved to be a systemic disappointment and lead me to conclude that the SEC securities lawyers, if only through their investigative ineptitude and financial illiteracy, colluded to maintain large frauds such as the one to which Madoff later confessed,” Markopolos said. Madoff “had a lot of help,” Markopolos said.

U.S. lawmakers, who began investigating Madoff’s case last month, are hearing from Markopolos for the first time as they try to determine how regulators missed his alleged $50 billion Ponzi scheme, the biggest in history. The proceeding may shape the SEC’s fate as Congress debates whether to bolster the regulator or turn its responsibilities over to another agency.

Investors “expected regulators to perform their roles effectively,” Representative Paul Kanjorski, the Pennsylvania Democrat and chairman of the House Financial Services Committee’s capital markets panel, said as he began the hearing. “We need to pursue long-scale reforms.”

Democratic Representatives Bradley Sherman of California and Michael Capuano of Massachusetts, members of the subcommittee, suggested Markopolos consider joining the SEC. He declined, citing family issues.

SEC Officials

Markopolos, 52, testified along with SEC directors Linda Thomsen, enforcement; Andrew Donohue, investment management; Erik Sirri, trading and markets; Lori Richards, compliance and inspections; and Acting General Counsel Andy Vollmer.

The officials, in joint testimony, said the regulator may stiffen audit requirements for money managers and inspect firms more frequently. The SEC is also examining how it evaluates risk and may require investment advisers to provide more information than it currently requires, according to the testimony.

Claims filed against Madoff by the SEC and prosecutors may result in billions of dollars in liability and “decades of incarceration,” the officials said.

SEC Inspector General David Kotz told lawmakers Jan. 5 that he was investigating whether Madoff’s clout and relationships with regulators helped the money manager avoid detection. Madoff sat on an SEC advisory committee and was chairman of the Nasdaq Stock Market.

$25 Billion

Markopolos today said losses from the alleged fraud probably will be $15 billion to $25 billion, less than the $50 billion estimate based on what prosecutors said Madoff told his sons before his December arrest. Losses among European investors, including royal families Markopolos declined to identify, likely will exceed losses in the U.S., he said.

Markopolos, in his written testimony, said Madoff’s resume and connections on Wall Street made him fear for his life as he and a team of advisers scrutinized Bernard L. Madoff Investment Securities LLC. His testimony included 310 pages of e-mails and financial documents.

“Our analysis lead us to conclude that Mr. Madoff’s fund and the secret walls around it posed great danger to those questioning and investigating them,” he said in the document. “He was one of the most powerful men on Wall Street and in a position to easily end our careers or worse.”

Repeated Meetings

Markopolos described repeated meetings with SEC investigators in Boston and New York, saying they appeared to lack the financial expertise needed to understand his warnings or brushed them off. He later tried to alert the media, without success, he said.

“BM’s math never made sense, his performance charts were clearly deceiving, and his return stream never resembled any known financial instrument or strategy,” he said, referring to Madoff by initials. “To believe in BM was to believe in the impossible.”

Markopolos in 2005 shared his concerns with Meaghan Cheung, a branch chief in the SEC’s New York office. Markopolos said he gave Cheung with a 21-page report alleging that Madoff was paying off old investors with money from fresh recruits.

“Ms. Cheung never expressed even the slightest interest in asking me questions,” Markopolos said. “She never initiated a call to me. I was the one always calling her. She was unresponsive and mostly uncommunicative when I did call.”

SEC spokesman John Nester declined to comment.

‘Behaved Ethically’

Cheung approved an internal memo in November 2007 to close an SEC investigation of Madoff without bringing any claim. She later left the agency.

No active telephone number was listed for her in two Internet directories. On Jan. 7, she told the New York Post she had worked hard to pursue fraud at the agency for 10 years.

“Everyone in the New York office behaved ethically and responsibly and did as thorough an investigation as we could do,” she told the newspaper.

After more interactions with SEC officials, Markopolos said by last year he had “truly given up on the BM investigation.” Federal prosecutors arrested Madoff Dec. 11 after he allegedly confessed to his sons that his investment-advisory business was “one big lie.”

SEC Chairman Mary Schapiro, sworn in Jan. 27, should assess the staff and determine what skills it lacks, Markopolos said.

‘Too Many Attorneys’

“My bet is that Ms. Schapiro will find that she has too many attorneys and too few professionals with any sort of financial background,” he said.

The regulator will only attract employees who understand balance sheets, income statements, derivatives and complex trading strategies if it adopts the “industry’s compensation guidelines,” Markopolos said.

Schapiro should set up a central office to respond to all whistleblower complaints, which are handled by the agency’s regional bureaus on an “ad hoc basis,” he said. Markopolos also said the new chairman should consider relocating the SEC to a city in the U.S. Northeast from Washington.

“Washington is a political center not a financial center,” he said. “If the SEC wants to attract the top talent, relocating its headquarters to somewhere between Rye, New York, and New Haven, Connecticut, is where this agency will best attract the foxes with industry experience it so desperately needs.”

To contact the reporters on this story: Jesse Westbrook in Washington at jwestbrook1@bloomberg.net; David Scheer in New York at dscheer@bloomberg.net; Mark Pittman in New York at mpittman@bloomberg.net.

Last Updated: February 4, 2009 12:03 EST
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