Paul Nitze: This year’s Grinch
The Aspen Times
Aspen, CO Colorado
Anyone who’s thinking of staging a local production of “How the Grinch Stole Christmas!” won’t need to do a casting call for the title role. Bernie Madoff has that spot locked up.
We’ll probably never know how much was lost by Aspenites in the Madoff fraud, but a reasonable estimate is that 50 to 100 families in town were affected. Losses attributed to only the bold-face names, like Sen. Frank Lautenberg and Mort Zuckerman, total in the hundreds of millions of dollars. Other less prominent investors lost hundreds of millions more.
What is already a buyer’s market for Aspen real estate has turned even more sour for sellers as Madoff-related losses have pushed new listings onto the market. A friend’s family has put their West End home up for sale at a discount to what they bought it for only a year ago. They had money invested with Madoff since 1966 (!) and grew to appreciate the steady returns in both calm and choppy financial markets.
Two sentiments I can’t abide have sprung from this scandal. The first is an ugly sense of schadenfreude. This is an “easy come, easy go” attitude, fed by the notion that those who put their money with Madoff had too much to begin with. What I despise in particular about that sentiment is that the vast majority of those who invested with him are self-made. Forget about the dollar figures for a second. Whether there is money left over or not, there is a terrible sadness in seeing the fruit of all that hard-earned labor stolen.
No more tolerable is the notion that Madoff’s investors should have known better. Some spotted the warning signs and declined to invest. They used computer models, which have been around for more than a decade now, to demonstrate that Madoff’s returns were impossible to replicate with any known basket of investing strategies. Or they relied on old-fashioned business judgment to balk at a guy who refused to disclose his methods. Or, if they were particularly astute, they noticed a basic mismatch in the assets he had under management and the trading volume his firm generated.
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Nevertheless, it is absurd to argue that Madoff’s investors are victims of their own ignorance. Some of the savviest institutional wealth managers in the world were burned, like Santander, RBS, and BNP Paribas. The SEC received a half-dozen complaints about Madoff’s operation in the last decade, and effectively punted on all of them.
Those who think they’ve kicked the tires on their own investments are largely kidding themselves. Even if you know what kind of assets you’re invested in, if you’ve put money into a fund or a partnership and you haven’t inspected the books yourself, you are a potential victim of fraud.
The pain occasioned by this fraud will linger for a long time. Most of if will be invisible to those not directly stung, but other effects will be noticed. Locally, Aspen charities are going to get whacked by the withdrawal of support from individuals and foundations who had their money with Madoff or one of his feeder funds.
Some good will also come of this. One of the unfortunate features of any recession is that everyone feels the ratcheting effect of tighter credit. Credit is simply a financial expression of trust, and trust is in short supply these days. Good business or bad, no one is immune. Survival of the fittest means that the weakest and least profitable firms are the first to go under, but plenty of perfectly sound enterprises are also caught in the undertow.
The Madoff scandal is an example of a financial catastrophe that comes at just the right time, when it can send powerful ripples across the entire investment industry. On one level, it further poisons the well of goodwill built up by investment advisors and private wealth managers. Already buffeted by stock market losses, those firms are now exposed as naked, incapable or unwilling to perform the due diligence they promised.
But the more important consequence of the Madoff scam is a loss in confidence in the business model itself. It is absolutely outrageous that a firm like Fairfield Greenwich Group could get away with charging its investors 20 percent of profits and 2 percent of assets to park funds in a black box investment over which it exercised zero oversight. This doesn’t just apply to Fairfield Greenwich Group, or Ascot, or Tremont, or any of the dozens of funds that had money with Madoff. It applies to the entire industry.
Too many investors were sold a bill of goods over the last decade. They were told that egregious management fees could be justified by superior performance. That model is now exposed as rank charlatanism.
The business cycle is not dead, and we are unlikely to ever kill it off. But a certain rationalism should pervade for at least a few years. Layoffs in the financial services industry will see some of our better minds go into management, where they belonged from the start and can do the most good. Hedge funds, private equity firms, venture capital ” all of those industries will survive, and the best funds will thrive, only on a scale that makes a whole lot more sense.
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