Note to advisors:The following is a checklist of behaviors to which advisers should adhere in order to preserve — and even build — their clients' confidence.

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Why you aren't Bernard Madoff
By Ric Edelman
February 1, 2009 Post a Comment Recommend (7)


The confidence of many investors has been shattered by Bernard Madoff's alleged Ponzi scheme. His exceptional credentials allowed him to deceive so many people for so long. An international market maker, Mr. Madoff had served as chairman of The Nasdaq Stock Market Inc. in New York. He also served as head of the Alexandria, Va.-based Securities Industry Association's trading committee and was active in social and philanthropic circles.
If you can't trust a guy with his credentials, is it possible to trust anyone? That is the question consumers have been asking on my national radio show.

They want to know how they can avoid con artists who masquerade as legitimate financial advisers.

The following is a checklist of behaviors to which advisers should adhere in order to preserve — and even build — their clients' confidence.


1. Don't overtly tout your ethics, honesty and trustworthiness.

Honesty is a given. Anyone who aggressively promotes honesty is raising a red flag. Mr. Madoff's website stated, "Clients know that Bernard Madoff has a personal interest in maintaining the unblemished record of value, fair dealing and high ethical standards that has always been the firm's hallmark."

Such bragging could be a sign of trouble.

Along the same lines, don't tout your religious beliefs in your marketing. Some financial advisers define themselves as Christian (or Jewish or Muslim).

They put religious symbols on their business card, making God part of their marketing pitch. (It is quite ironic, if you think about it.) Remember that affinity scams are among the most common of all financial frauds.

2. Never accept investment checks payable to you or your firm.

Investment checks should always be made payable to a third party — meaning the custodian handling the account, such as The Charles Schwab Corp. or TD Ameritrade Holding Corp. This way, you won't have access to, or control of, your clients' assets.


3. Don't issue your own statements.

Advisers who issue statements — as Mr. Madoff was doing — are engaged in a huge conflict of interest. By issuing your own statements, you are opening yourself up to accusations of issuing fraudulent documents.

Of course, it is OK to issue separate reports such as those related to performance data or tax information.


4. Use a well-known, reputable auditor.

An independent auditor should regularly examine your books and records to ensure that clients' money is being handled properly. Mr. Madoff hired a small auditing firm that reportedly operated out of a single 13-by-18-square-foot office, even though he was handling billions of dollars in assets. Apparently, nobody bothered to check on the auditor.


5. Don't promise clients high, or even steady, rates of return.

Mr. Madoff claimed to be producing returns of 1% every month. Any honest adviser knows such consistently high returns are impossible. Nobody has the magic elixir; there is no secret sauce or magic formula. If anybody who claims to have consistently produced returns far in excess of everyone else isn't viewed with great suspicion, they should be.

6. Don't use testimonials.

Mr. Madoff built his entire business on testimonials. At the four country clubs where he was a member, prospective members were informed that one of the benefits of joining the club was that "members can invest with Bernie Madoff." He networked extensively via the social and philanthropic circuit in New York and Palm Beach, Fla. People flocked to Mr. Madoff because "everyone else" was investing with him, and clients touted how much money they were making with him. We now know that those profits were illusions.


7. Don't invest in anything you can't easily explain to your clients.

Mr. Madoff was unable to explain how he invested the money he managed. In fact, that became part of his shtick, with clients joking that he used "a black box." They aren't laughing anymore.

If you can't explain a particular investment strategy or product — whether it is yours or one from an outside provider — don't use it. If the product or approach is so sophisticated that mere mortals can't understand it, mere mortals shouldn't buy it.


Although the Madoff story is discouraging, investment fraud is far from new. The very first investment opportunity in America — the U.S. government bonds issued by Alexander Hamilton in 1792 to pay debts incurred during the Revolutionary War — became part of an insider trading scheme.

Investment frauds have existed as long as investments themselves.

Make sure that your clients aren't taken in by fraud by educating them to the warning signs. And don't give off any inadvertent signals yourself.

Ric Edelman is chairman and chief executive of Edelman Financial Services LLC and Edelman Financial Advisors LLC in Fairfax, Va.