"All just one big lie"

I am utterly shocked at this moment. Really. Though the details are few at this time, it appears Bernard Madoff was arrested today in a $50 billion Ponzi scheme. Madoff started a securities firm in 1960 and grew it by being innovative in the broker-dealer business. Some of his innovations were quite controversial at the time.

From the reports I have seen so far, Madoff has both an investment advisory business and a broker dealer business. In simplified terms, IA's manage assets on behalf of others (simlar to the mutual fund business) while BD's trade securities and execute transactions on behalf of customers. Accounts of the Madoff's last days are fascinating.

Madoff had kept his office on a separate floor, with access to the books under lock and key. In the last days, he appeared extremely stressed to employees. When two senior employees questioned why his explanations of why he wanted to pay bonuses early, he admitted it was "all just one big lie" and "basically, a giant Ponzi scheme". The business had been insolvent for years and had losses of some $50 billion with only $200 to 300 million left. There is no doubt it will take time to unwind the fraud and determine exactly what happened.

A Ponzi scheme or "robbing Peter to pay Paul" is when new investors' money is used to pay off redeeming investors. The underlying "business" or "investment" is merely a charade. This requires increasing the amount of new investors faster than the old investors cash out. Obviously, it eventually becomes impossible to sustain. It is not clear how long the fraud was perpetrated and how exactly he was able to defraud regulators. IA's and BD's are heavily regulated and frequently examined. I am very surprised something of this magnitude was not caught and that at this point it appears he did it alone.

When more info comes to light on how this fraud was perpetrated, I will update you.