Read Online No One Would Listen: A True Financial Thriller by Harry Markopolos - Free Book Online Page B
Authors: Harry Markopolos
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discretion. They felt extremely fortunate that he had agreed to accept them as clients. When I started speaking with his investors, I discovered that they felt privileged that he had taken their money.
We began to get some concept of how big he was within a few weeks by looking at the open interest on Bloomberg. The open interest, in this case, was the number of Standard & Poor’s 100 index options actually in existence at each moment in time. Like most people in the industry, I had a working knowledge of the hedge fund industry, but I certainly wasn’t an expert. Hedge funds were a relatively new concept. The first fund was founded in 1949 by former Fortune magazine writer and editor Alfred Winslow Jones, with the concept that he would protect his long stock positions by selling other stocks short, hedging against a big move in the market that could devastate his investment. In 1966, when Fortune reported his ability to consistently outperform mutual funds, the hedge fund world exploded. But a lot of those new companies didn’t bother to hedge against anything; they became highly leveraged investment firms, and a lot of them went belly-up in down markets. By 1984 there were only 88 known hedge funds.
That began changing again in the 1990s bull market. The hedge fund world exploded once more; by the turn of the new century there were an estimated 4,000 hedge funds investing about half a trillion dollars. Hedge funds long ago had stopped being conservative money management firms; a hedge fund meant simply an investment fund run as a private partnership and limited to wealthy investors and institutions. They were basically unregulated and invested in all types of financial instruments. While Madoff didn’t acknowledge that his money management operation was a hedge fund, that’s the way he was set up. He accepted money from high-income investors, institutions, and other funds and supposedly invested it. Supposedly.
Madoff’s unique structure gave him substantial advantages. As far as we knew at the time, the only entrance to Madoff was through an approved feeder fund. That meant his actual investors couldn’t ask him any questions, and they had to rely completely on their funds—who were being well rewarded—to conduct due diligence. I knew about the world’s biggest hedge funds: George Soros’s Quantum Fund, Julian Robertson’s Tiger Fund, Paul Tudor Jones’s Tudor Fund, Bruce Kovner’s Caxton Associates, and Lewis Bacon’s Moore Capital. Everybody did, and we estimated they each managed about $2 billion. Both Neil and I had read Jack Schwager’s Market Wizards, which profiled the most successful investment managers, and Madoff wasn’t even mentioned. So when we started trying to figure out how much money Madoff was running we were stunned. Absolutely stunned. According to what we were able to piece together, Madoff was running at least $6 billion—or three times the size of the largest known hedge funds. He was the largest hedge fund in the world by far—and most market professionals didn’t even know he existed!
There was no logical explanation for what we had discovered. It was like going out for a nice stroll and discovering the Grand Canyon. It was just so hard to believe. Neil and I didn’t have faith in the numbers, we didn’t believe in the numbers, we knew that numbers can’t lie. If our math was correct—the 6 percent correlation to the market, the steady 45-degree return, the number of options Madoff would have to own to carry out his strategy—(and we continually checked our math), the largest hedge fund in history appeared to be a complete fraud.
We never actually initiated an investigation. We never discussed it. Suddenly we were in the middle of it. We had no specific objectives; we just wanted to figure out what was going on. We started by gathering as much information as possible about Madoff’s operation. Frank, meanwhile, was continuing to meet with potential
We began to get some concept of how big he was within a few weeks by looking at the open interest on Bloomberg. The open interest, in this case, was the number of Standard & Poor’s 100 index options actually in existence at each moment in time. Like most people in the industry, I had a working knowledge of the hedge fund industry, but I certainly wasn’t an expert. Hedge funds were a relatively new concept. The first fund was founded in 1949 by former Fortune magazine writer and editor Alfred Winslow Jones, with the concept that he would protect his long stock positions by selling other stocks short, hedging against a big move in the market that could devastate his investment. In 1966, when Fortune reported his ability to consistently outperform mutual funds, the hedge fund world exploded. But a lot of those new companies didn’t bother to hedge against anything; they became highly leveraged investment firms, and a lot of them went belly-up in down markets. By 1984 there were only 88 known hedge funds.
That began changing again in the 1990s bull market. The hedge fund world exploded once more; by the turn of the new century there were an estimated 4,000 hedge funds investing about half a trillion dollars. Hedge funds long ago had stopped being conservative money management firms; a hedge fund meant simply an investment fund run as a private partnership and limited to wealthy investors and institutions. They were basically unregulated and invested in all types of financial instruments. While Madoff didn’t acknowledge that his money management operation was a hedge fund, that’s the way he was set up. He accepted money from high-income investors, institutions, and other funds and supposedly invested it. Supposedly.
Madoff’s unique structure gave him substantial advantages. As far as we knew at the time, the only entrance to Madoff was through an approved feeder fund. That meant his actual investors couldn’t ask him any questions, and they had to rely completely on their funds—who were being well rewarded—to conduct due diligence. I knew about the world’s biggest hedge funds: George Soros’s Quantum Fund, Julian Robertson’s Tiger Fund, Paul Tudor Jones’s Tudor Fund, Bruce Kovner’s Caxton Associates, and Lewis Bacon’s Moore Capital. Everybody did, and we estimated they each managed about $2 billion. Both Neil and I had read Jack Schwager’s Market Wizards, which profiled the most successful investment managers, and Madoff wasn’t even mentioned. So when we started trying to figure out how much money Madoff was running we were stunned. Absolutely stunned. According to what we were able to piece together, Madoff was running at least $6 billion—or three times the size of the largest known hedge funds. He was the largest hedge fund in the world by far—and most market professionals didn’t even know he existed!
There was no logical explanation for what we had discovered. It was like going out for a nice stroll and discovering the Grand Canyon. It was just so hard to believe. Neil and I didn’t have faith in the numbers, we didn’t believe in the numbers, we knew that numbers can’t lie. If our math was correct—the 6 percent correlation to the market, the steady 45-degree return, the number of options Madoff would have to own to carry out his strategy—(and we continually checked our math), the largest hedge fund in history appeared to be a complete fraud.
We never actually initiated an investigation. We never discussed it. Suddenly we were in the middle of it. We had no specific objectives; we just wanted to figure out what was going on. We started by gathering as much information as possible about Madoff’s operation. Frank, meanwhile, was continuing to meet with potential
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