Airing live on C-SPAN, the first of the House Financial Services Committee hearings on the Bernard Madoff fraud on Monday, January 5, 2009 felt like the Congressional equivalent of a Ponzi scheme. Big spans of empty Congressional seats commanded the camera’s lens at this historic hearing while empty-headed questions filled a torturous five hours with nothing to show for it at the end.
The hearing confirmed one of my nagging suspicions: whether it’s government oversight of market manipulations, timely investigations of politically connected crooks, or the best and the brightest serving the American people’s interests in the hallowed halls of our wobbly democracy, “it’s all just one big lie,” to quote Mr. Madoff on his business model.
While Allan Goldstein, a quiet gentleman of 76 from upstate New York, sat patiently in a back row waiting for his turn to speak, with time to ponder the potential foreclosure on his home after losing his entire life savings to Madoff’s fraud, Rep Spencer Bachus (R-Al) debated in the opening five minutes whether this was a formal hearing or not since committee members had not yet been officially sworn in. (I had a quick flashback to Marisa Tomei in the movie “My Cousin Vinny” and did a quick edit: “Your life is lying on the ground in little bloody pieces. Now I ask you, do you give a damn what kind of congressional hearing they’re holding after the fact for the s-o-b that robbed you?”)
This vacuous interlude would be eclipsed later in the hearing when there was an interminable back and forth to differentiate for some of the House Financial Services Committee members the difference between an Inspector General of the Securities and Exchange Commission (SEC) and the actual enforcement division of the SEC.
Adding to the surreal nature of the hearing was the fact that Mr. Madoff, the greatest financial criminal of all time in terms of money stolen and lives impacted, was sitting not in a jail cell but a luxury penthouse, likely watching the hearing while sipping Dom Perignon from a Limoges flute. Mr. Madoff did have an afternoon rendezvous with a bail hearing where prosecutors revealed he was recently mailing expensive jewelry to family members.
By the end of the first hour of the hearing, it was abundantly clear that our Congress is no match for the Wall Street sharks. By the end of the fifth hour, any citizen who loves their country could have been forgiven for wanting the same kind of pills that Mr. Goldstein said his wife is taking to control her emotional state over the prospect of losing her home, her life savings and moving in with their children.
The first panel to testify included H. David Kotz, the Inspector General of the SEC. Mr. Kotz has the youngish, fresh-scrubbed, optimistic face of someone who hasn’t been exposed to Wall Street for very long. He’s been at the SEC for 13 months. Before that he served as Inspector General at the Peace Corps. (Yes, Peace Corps.) Before that he worked at the U.S. Agency for International Development (USAID). He is a lawyer but apparently has no securities background to untangle the web at the SEC that permitted the largest and most complex securities fraud in the history of the world.
Several queries were directed at Mr. Kotz from the scant amount of chairs occupied to explain the well publicized strategy Mr. Madoff purported to use to sustain those outsized and consistent returns, dubbed the “split strike conversion.” Mr. Kotz said he didn’t know what this meant.
Because securities fraud is not Mr. Kotz’ area of expertise anymore than emergency management was Michael Brown’s area of expertise at FEMA, Mr. Kotz is unlikely to figure out the following in time to save Wall Street from drowning in its own hubris:
A split-strike conversion means simply the purchase of a group of stocks that correlate as closely as possible to those found in the Standard and Poor’s 100 (S&P 100); for example, buying some blue chip names in telecommunications, finance, energy, pharmaceutical, etc. To attempt to put a collar on how much you can lose, you buy some OEX (S&P 100) put options. To collect a little extra income to supplement stock dividends, you sell (collect premiums on) OEX call options. Could this generate the kind of consistent, positive returns Mr. Madoff was reporting? Highly unlikely because you are not fully protected on the downside and not a chance in hell if, as revealed in the hearing, the portfolio of stocks and options were sold at the end of every month with the funds dumped into U.S. Treasury securities (according to the fake statements given to clients). The transaction costs would eat up the profits and deliver a minuscule or negative return. And, that’s precisely why Mr. Madoff was not actually doing any trades with his clients’ money. (The month-end purchase of Treasury securities on paper was to provide an alibi for the shortfall in stock positions reported to the SEC, should they ever decide to actually do a thorough investigation.)
My problem with Mr. Kotz’ fresh face from the Peace Corp. is that he’s going into this complex web of deceit inadequately armed with the knowledge he’ll need to root out the SEC pitfalls that allowed this to happen and sniff out any potential Madoff co-conspirators. Maybe his fresh face will surprise us but I have this haunting feeling that I’m going to be hearing “nice job Kotzy” just moments before the next financial fraud explodes under the nose of the SEC.
Here’s another critical area that no congressional member or panel member jumped on. When Mr. Goldstein explained how his accountant had referred him to Mr. Madoff, no one spoke up and said, what a minute, you’re from New York aren’t you. Hey, isn’t New York one of those states that is allowing broker-dealers to pay fees to accountants for referrals of clients? (What kind of an accountant doesn’t see a red flag when a conservative client’s statement is showing a portfolio turning over 12 times a year?) No one in the hearing room said maybe we should look and see if our whole system of checks and balances has been corrupted. (Which is precisely what has happened. We’re just one big seamless pay-to-play nation going the way of ancient Rome at an astonishing clip.)
There was also nary a peep from anyone about the massive manpower and computer system required to generate fake trade confirmations, fake reporting of stock dividends, fake monthly statements, fake 1099s to thousands of clients.
I wish Jeff Quam-Wickham, a CounterPunch reader, had been in the hearing room to yell out the phrase he emailed me recently: “They’re stealing our homes, land and securities…so where is Homeland Security?”
The best line of the day came from Rep Gary Ackerman (D-NY) who summed up the investigative prowess of the SEC as follows: “They suck at it.”
The scariest testimony of the day came from Stephen Harbeck, President and CEO of the Securities Investor Protection Corporation (SIPC), the congressionally chartered organization that backs accounts at bankrupt broker-dealers up to $500,000 for losses unrelated to market declines. Mr. Harbeck informed the congressional members that $830 to $850 million of assets had been located for Mr. Madoff’s firm. On top of that, SIPC has $1.6 billion in assets; a credit line of $1 billion from the U.S. Treasury and another $1 billion commercial credit line. Because Madoff’s firm was a broker dealer, SIPC’s reserves could be wiped out, forcing it to assess new fees on the Wall Street firms who fund it; the very firms who have lobbied against the regulatory measures that might have prevented the Madoff fraud; the very firms that have lobbied to allow kickbacks (referral fees and commissions) to be paid to accountants by broker dealers. This would be sweet justice were it not for the fact that taxpayer money is now propping up these firms.
Another area that found no light in the hearing was the recent report by Jason Graziadei of the Inquirer and Mirror newspaper out of Nantucket that Frank Avellino appears to have not actually stopped soliciting funds illegally. Mr. Avellino and his accounting partner, Michael Bienes, were charged by the SEC back in 1992 with selling unregistered securities that promised returns of 13.5 to 20 percent to the tune of $440 million. They then turned the money over to Mr. Madoff to manage. (Mr. Madoff’s name would have never surfaced in this matter had it not been for a story in the Wall Street Journal in 1992.) Under the SEC settlement, Madoff was not charged or even named, the money was reportedly returned to clients, Avellino and Bienes were fined $50,000 each and their firm $250,000. Both Avellino and Bienes, who run a firm called Mayfair Bookkeeping, are today ultra wealthy philanthropists enjoying the multiple mansions and lifestyle that are eerily similar to that of Bernard Madoff.
Nantucket attorney Michael Wilson has filed a lawsuit against Frank Avellino claiming that Nevena Ivanova, Mr. Avellino’s house cleaner and a Bulgarian immigrant, handed over $124,000 to Avellino to invest. The affidavit says Avellino invested her money in what she later discovered to be a fictitious entity called Kenn Jordan Associates. On December 1, 2008, just 10 days before Mr. Madoff was arrested, Avellino told Ivanova that all her money had been lost.
Mr. Wilson has successfully attached Mr. Avellino’s $10 million dollar Nantucket mansion, which he has just put on the market according to the report in the Inquirer and Mirror.
In one of his many cozy confabs posing as a model of self-regulation, Mr. Madoff testified as follows before the SEC on March 1, 2001: “…it’s been said here before, sunshine, daylight, is the best disinfectant.”
Thanks to Mr. Madoff and the co-opted self-regulators, there is only darkness now and Congress has left but a brief window of opportunity to shore up investor confidence before all of Wall Street dissolves into Madoffville.
PAM MARTENS worked on Wall Street for 21 years; she has no security position, long or short, in any company mentioned in this article. She writes on public interest issues from New Hampshire. She can be reached at firstname.lastname@example.org