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Bernie Madoff - the Second Child of Ralph and Sylvia Madoff

Essay by   •  May 2, 2018  •  Case Study  •  2,261 Words (10 Pages)  •  740 Views

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Madoff Case

Name: Jun Yan

Student number: s4438644        

Submission date: 17th April 2018

Word count: 2166


Bernie Madoff, the second child of Ralph and Sylvia Madoff was born on April 29, 1938. After he obtained his degree major in political science at Hofstra College, Bernie founded his own brokerage firm in 1960. His business grew with the assistance of his father-in-law Saul Alpern, who was an accountant. In order to compete with firms that were members of New York Stock Exchange trading on the stock exchange’s floor, Madoff decide to use innovative computer information technology to disseminate its quotes, which later on became the National Association of Securities Dealers and Automated Quotations(NASDAQ) and Bernie became one of the first five brokers to join NASDAQ. With all these success, Bernie’s fund became the apex of the investment pyramid and eventually, his scheme reached $64.8 billion. Everything came to an end when the growing recession caught Bernie swimming naked. On November 30, Bernie had $7 billion in redemptions waiting to be paid. After Bernie Madoff was arrested on December 11, 2008, he claimed that his whole investment fund was nothing but a Ponzi scheme. He pled guilty for 11 counts on March 12, 2009 and On July 29, 2009 Bernie was sentenced to 150 years in jail (Collins 2013).

Madoff operated a the most massive Ponzi scheme to date which named after Charles Ponzi ("Is Social Security a Ponzi scheme?", 2018), who created the first Ponzi scheme in the 1920’s by selling investments and promised well-above-average returns on investments but were actually paid out from the investments of new investors, rather than legitimate business activities or profit of financial trading. Ponzi schemes are generally vulnerable and unsustainable with little or no legitimate earning, it can easily fall apart when (1) The operator takes the investments and run away. (2) Running low on new investors as it requires a constant flow of cash to make it works. (3) Economy is not doing well and large amount of current investors decide to pull out and claim their returns. In Madoff case, things began to fall apart when investors requested a total $7 billion in returns and he had only $266 million to pay (U.S. Securities and Exchange Commission, 2013). There is one more thing worth to notice here, Pyramid schemes and Ponzi schemes share many similarities in which victims are fooled by mastermind behind the plan who promise extraordinary returns. The reason why Madoff was operating a Ponzi scheme instead of a Pyramid scheme is that Ponzi schemes are based on fraudulent investment services. Madoff merely transfers funds from one investor to another and barely works on any legitimate business activities and financial trading. On the other hand, a Pyramid scheme is well structured that the initiator must recruit other investors who will continue to recruit new investors and so on. The initiator will offer you an opportunity which you have to buy the right to start a franchise and recruit more investors like yourself and then you have the right to collect a small margin of profit from the investors you recruited (Pinkasovitch, 2017). Many Ponzi schemes share common characteristics, be able to identify them is the key to not fall into the trap.

  • High return with little or no risk. Must be aware of this suspicious guaranteed extraordinary return and always bear in mind high return typically comes with high risk.
  • Consistent returns. As the market fluctuate, the investments tend to go up and down along with the market. Be aware if the investments generate positive returns consistently over time regardless of how the market performs.
  • Unregistered investments. Transparency is important that investors have access to the information about the company their investment funds went in. Such as company’s management, products, services and financial reports.
  • Unlicensed dealer. Most of the risky investments require highly trained professionals to regulate. Madoff was illegally operating as an unlicensed investment adviser for 45 years.
  • Secretive, complex strategies. Madoff never shared his mathematical calculations for determining when to buy or sell. He told people that he had some special feelings when market goes up or down.
  • Paperwork statements. Madoff refused to provide his clients with online access to their account and statement, especially for him being a pioneer in electronic trading.
  • Difficulty claiming return. Madoff did a great job by offering high return and convincing his investors to stay within his scheme for so long until the bad time came.

Ever since the price of bitcoin was skyrocketing, many investors started to terrify and believe that bitcoin was nothing but another perfectly planned Ponzi. However, neither Ponzi nor Pyramid are accurate description for digital currency. Ponzi schemes are operated by a central operator who responsible for bringing new funds and transfer to the old investors. It has an inevitable ending as long as it is running out of cash flow. Pyramid, by contrast, are more decentralized, which every investor is responsible for recruiting new victims. However, bitcoin is more like a financial bubble as we compare to the classical economic bubbles in the history, The Dutch Tulip Bubble, The South Sea Bubble, Japan’s Real Estate and Stock Market Bubble, The Dot-com Bubble, The US Housing Bubble. Financial bubble is an asset trading at a market price which strongly exceeds its’ intrinsic value. Bitcoin as a digital currency, an advanced technology which has no real value since it does not recognize by any countries as a legal tender is now trading at $6750 which dropped significantly over the last three months. This basically tells us that digital currency does not back up by any national economies. The worthiness comes from demand and supply of themselves, more people using it means more credit it has. And the worst thing is, bitcoin is now mostly using in gray zone such as money laundering, black market trading, extorsion and terrorism financing.

There are several key contributing factors to allow Madoff’s Ponzi scheme to survive for over twenty years. Firstly, Bernie Madoff was the pioneer of electronic trading, served on SEC advisory committees, held a four-year elected term on the NASD Adviser Council and the former non-executive chairman of NASDAQ stock market, the man with such prominent social status is the initial factor that he could earn people’s trust easily (Collins, 2013).

“In addition, people were attracted by Bernie’s personality. He was charismatic and did not boasted about his financial success. Bernie exhibited a strong sense of family, loyalty, and honesty, and did not drink alcohol. Elderly clients treated Bernie as a son, peers treated him like a brother, and younger clients treated him like a friendly uncle (Collins, 2013, p 6).”

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